Local Government Pension Scheme: Fair Deal Ahoy

Will private contractors soon be able to take on public outsourcing services and provide LGPS membership for transferred staff without taking on a pension debt that could sink their ship? Possibly yes, as new LGPS policy heaves into view with the Government’s latest consultation on changes to LGPS participation arrangements.

Most public authorities that are LGPS employers are required by the Best Value Staff Transfers (Pensions) Direction 2007 to ensure that where there is a transfer of services to a contractor, the transferred staff retain a right to either continued LPGS membership or access to a defined benefit pension scheme “broadly comparable” to the LGPS. Under the 2013 LGPS Regulations, contractors can only join the LGPS via an Admission Agreement, the terms of which are often finalised long after the transfer of staff has taken place and often in circumstances where all of the pensions risk is taken on board by the service provider.

Following in the wake of changes for other public sector schemes in the last few years, the consultation proposes a move to a Fair Deal approach to outsourcing of local government services, which will take away the broadly comparable option and require the public authority to ensure continued LGPS membership for transferring staff. Such staff will be known as “protected transferees” and will remain entitled to protection for as long as they continue to work wholly or mainly on the transferred services.

The protection will extend to re-tenders, sub-contracting of services and, if both parties agree, can extend to employees who would not otherwise be. Protected transferees who have historically been given access to a broadly comparable scheme will have the right to transfer back to the LGPS and will be given the option to re-join the LGPS on retender.

To achieve its proposals, the consultation contains new “Deemed Employer” provisions under which the public authority remains the LGPS Employer in respect of transferred staff for the purposes of LGPS membership. This means the contractor does not formally join the LGPS and the public authority will remain on the hook for contribution and funding risk.

This will help the LGPS reduce the administrative costs of dealing with over 16,000 participating employers and perhaps provide a more seamless pension transition for transferred staff. It may also help the contractors to simplify their relationship with the LGPS and potentially reduce their administrative obligations.

Of course, commercial risk and liability sharing will need to be set out in the outsourcing contract at the outset if the Deemed Employer route is chosen by the public authority otherwise the contractor will have no obvious liability for LGPS pension costs. One intention of the proposal is to require the contracting parties to consider pension provision mechanisms at the point of contracting, rather than leaving this to a later date (as can often happen now).

The benefit of early discussion on LGPS liability is clear, giving both parties the opportunity to cost more accurately for the provision of the outsourced services. The consultation proposes that the LGPS Scheme Advisory Board will prepare guidance for outsourcing public authorities to help them achieve flexibility and protection form potential risks in their outsourcing contract.

This is where the true colours of the proposed changes will become clear. Under current arrangements it is common for the contractor to take on liability for funding risk during the life of the contract and also for historic pension accrual (i.e. benefits accrued before the staff transferred to the contractor). Normally the accrued benefits will be funded at 100% on an ongoing basis, but if the contract ends or service requirements dry up, contractors can often be left with an “exit” liability calculated on a much more prudent (and so expensive) gilts basis.

However, the starting point of the Deemed Employer route will be for the public authority to retain contribution and funding risk and the parties will negotiate from there. It means that “pass through” arrangements (where there is a fixed liability for the contractor throughout the life of contract, subject to extra costs for high wage increases and the costs of discretionary benefits granted by the contractor) should be the common choice as pension liability to the staff remains with the public authority throughout. Indeed, it is suggested that even if the public authority decides to use the admission agreement route, “pass through” may be appropriate.  

Does this signal a change of course? Does this mean that the current bond requirements will be thrown overboard? Frankly, it is too early to say and the LGPS Scheme Advisory Board guidance will offer further insight. However, given these potential new opportunities for different discussion about LGPS risk and liability sharing, it will remain important for contractors to take legal advice on the pension provisions in outsourcing contractors to ensure their contracts are ship-shape and to give LGPS exit liability a wide berth.

For further information or advice on the above, please contact Lee Colgate.