The DWP's GMP equalisation methodology is an improvement but questions remain about far it should be applied. Michael Klimes investigates this dilemma
In the past six months the Department for Work and Pensions (DWP) has been less shy about how the industry should deal with guaranteed minimum pension (GMP) equalisation.
Last November's consultation on GMP equalisation proposed a method where a scheme does a one-off calculation to determine whether a male or female has a better benefit, and whoever has the lower benefit will be uprated. In turn, that GMP is converted into an ordinary scheme benefit.
In its response this week, DWP reported the industry had welcomed this methodology. It also added that the GMP industry working group would consider how the proposed methodology could be improved.
The DWP said: "We will discuss with the working group what other groups might also be put forward as examples. We recognise that the key groups - pensioners and survivors probably should be included, however, we think that situations such as divorce settlements and defined contribution schemes with GMP underpins will depend on the rules of the scheme."
Other issues such as transfers, buyouts; backdating payments; cash equivalent transfer value (CETV) method for valuing benefits and reconciliation and lack of data issues will be considered by the working group as well.
The issues that the DWP response highlights raise questions such as how far should this methodology be applied in a scheme, and should it change depending on the circumstances of the scheme.
The big picture
LCP partner and head of pensions research David Everett, who sits on the working group, believes the methodology cannot be applied to everyone. "My personal view is that we should just do [the GMP methodology] for people who have suffered a material loss. For people who have transferred out or are dead, we should not go turning stones up for them.
"We don't have the data to do GMP equalisation for everyone as that would require perfect information for the scheme. Also, the further you go back into the past the harder it is to get high-quality data to deal with GMP equalisation."
Apart from how the standard of data might hinder the application of the methodology beyond a certain point, there are also the questions of cost and administrative complexity. "Respondents acknowledged that overall, the proposed methodology would provide lower administration costs than the 2012 proposal," the consultation said.
Making the methodology more expensive and administratively complex would defeat its initial purpose.
Everett continues: "It is pretty expensive [to do GMP equalisation] and as the consultation shows, there are a lot of technical details that the industry group still needs to work out."
Different schemes, different answers
Willis Towers Watson senior consultant David Evans agrees there should be a ‘material loss test' if trustees want to equalise benefits using DWP's methodology.
"The key question is what does ‘material' mean for that member? Trustees will need to think very hard about what that means. A level of pragmatism and proportion is called for when it comes to GMP equalisation, and the DWP methodology is used to do this. There is a cost benefit analysis to be done of how far schemes can or should go. There comes a point where trustees have to realise they have put forward their best endeavours with the information that is available."
Furthermore, Evans believes trustees have to think carefully about the make-up of their own members and circumstances regarding the methodology. He gives the example for defined contribution schemes with a GMP underpin.
"For trustees of these schemes, using the DWP methodology and equalisation is not so straightforward. Here, trustees might want to ask: ‘What do our scheme rules say and what are the ramifications for the scheme if we adopt this methodology?'"
There are other schemes that might not be at the stage of equalisation yet as they are still reconciling information or waiting for events to play out in a number of other areas. These include whether GMP equalisation is required under EU law, the Brexit uncertainty, and an ongoing Lloyds TSB case where unions argue GMPs should be equalised.
In the meantime, trustees may want to clarify the extent to which they will need to review members' GMP benefits, Evans suggests.
"Trustees should look at the discharge forms provided when members have transferred in or out of their scheme to see if GMP equalisation was covered in that transfer. This will help quantify the impact of equalisation. Having said that, it is good to do this anyway as it will help clean up the data of the scheme and that is good governance."
While the DWP's methodology is a step in the right direction, trustees will have to think hard about whether they want to use it.
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