Understanding the key terms of GMPs

Estimated reading time: 6 minutes

In recent years, there has been a lot of noise around Guaranteed Minimum Pensions (GMPs). We therefore get many questions from our LGPS Funds, employers and auditors about how we treat the different elements of GMP in our funding valuations and accounting valuations. 

There are a number of projects in progress, so we thought it would be useful to set out at a high level summary below.

What is a GMP?

A GMP is the minimum pension which a United Kingdom occupational pension scheme has to provide for those employees who were contracted out of the State Earnings Related Pension Scheme (SERPS) between 6 April 1978 and 5 April 1997. Contracting out would result in the employees and the employers paying reduced National Insurance contributions. 

Employers could only contract a pension scheme out of SERPS if the pension scheme was designed to provide a pension as good as a GMP (and there were various ways this could be evidenced).  

GMP indexation 

GMP indexation refers to the method in which GMPs are increased (or indexed) in order to protect the income from the effects of inflation.  

There are two main elements to a GMP; Pre 1988 GMP and Post 1988 GMP. These differ in the way in which the pension increases are shared amongst the scheme and the State. Further information on how these increases are applied in the LGPS is explained below.

For members who had reached State Pension age by 5 April 2016, the indexation of the Pre 1988 GMP is generally paid by the State. The indexation for the Post 1988 GMP is shared amongst the State and the fund; the first 3% of the pension increase would be paid by the fund and generally any increases above this would be paid by the State.

The introduction of the new State Pension on 6 April 2016 simplified the pension system. While there were simplifications, it removed the ability for the Government to pay the indexation difference on a GMP through the state pension.  

Who pays the pension increases now?

To deal with the complication with future indexation, the Government implemented an “interim” solution which required funds to pay inflationary increases in full to members reaching state pension age (SPA) between 6 April 2016 and 5 December 2018. Following a consultation in 2016 this “interim” solution was extended to 6 April 2021.  

At the 2019 valuation we assumed funds will pay limited increases (statutory minimum) for members that have reached SPA by 6 April 2016, with the Government providing the remainder of the inflationary increase. For members that reach SPA after this date, we assumed that funds will be required to pay the entire inflationary increases.  

Our approach was considered prudent, as it means that there should not be any increase in the liability as a result of the extension to the interim solution, as this is already being funded. Please note, this is an assumption made for funds we advise and, therefore, this may not be the case for funds that we do/did not advise.

Will there be financial recompense for LGPS funds?

We raised financial recompense for LGPS funds in our response to the original consultation but unfortunately this wasn’t covered in any response from the Government. We suggested that funds should receive additional funding to cover these costs. Otherwise the burden falls on the participating employers in the fund and we will raise this again if another consultation is opened.

GMP reconciliation 

A GMP reconciliation is effectively an exercise whereby all members in the fund who have a GMP are listed and these amounts compared to the records held by HM Revenue & Customs (HMRC).  

The lists held by the individual fund and HMRC are rarely aligned at the start of the process, with discrepancies occurring, both in terms of membership and/or GMP amounts. Where there is a discrepancy then this should be investigated and a decision made whether to accept the HMRC record as being correct.  

Without an exercise to reconcile these details, the value of GMPs may be incorrect and have an impact on pensions in payment for the members as well as an impact on liabilities of the fund. This may have resulted in unexpected costs to the fund.

We understand the GMP reconciliation exercises undertaken by funds have since concluded and some funds have published the results of this exercise.  

GMP equalisation

GMP equalisation refers to the (now legal) requirement to equalise pension benefits to remove the effects of unequal GMPs for males and females.  

The case of Lloyds Banking Group Pension Trustees Limited vs Lloyds Bank plc & Ors arose due to a number of inequalities in the provision of GMPs for men and women. GMPs were introduced to replicate the SERPS for pension schemes who had contracted out, but there were inequalities inherent in the SERPS. This led to inequalities in the provision of GMPs. One of these inequalities was that SERPS became payable to men at 65 and women at 60, which led to different rates of accrual and thus differing levels of benefits.   

European courts have long concluded that pension benefits represent a form of deferred pay. Therefore, employers and pension schemes in the private sector are legally obliged to equalise the benefits for the differences in GMPs for men and women.

GMP conversion

In their response to the original consultation, the Government proposed a number of solutions to deal with GMP equalisation. Each solution had pros and cons, hence the extension of the interim solution period. We now understand that the Government will investigate the possibility of an alternative long-term methodology, known as “conversion” which is currently being implemented in private sector pension schemes.

GMP conversion is a process by which a pension scheme can convert its GMPs, either for an individual member, a group of members or the whole scheme into other benefits.  

In private sector pension schemes, conversion is currently used to equalise the benefits for men and women in a one off exercise, without the need to carry out a year-on-year comparison. Therefore, there are a number of long-term administrative benefits to this solution, including making it simpler for members to understand.

What does this mean for me?

At the moment, no action needs to be taken by public sector schemes, apart from keeping their member data up to date. There may be further consultations in the future, particularly around GMP conversion, which we will respond to if given the opportunity.

Barnett Waddingham helps with GMP for the public sector, including equalisation via our GMP equalisation methods. Find out more about what we do by contacting our team today. Alternatively, please contact me below.