Do the public a service – fund your own pension

What’s the real reason for Jonathan Ross’s departure from the BBC? Fears that public-sector spending cuts might apply to his wardrobe and haircare budget? Belated remorse for making those prank phone calls? Relentless lobbying by readers of mid-market tabloids? Possibly. But I think it might have something to do with pensions.

On June 29, the BBC announced that its defined benefit pension scheme was closing to new members, and existing scheme members – who now get a pension based on “career-average” salary rather than final salary – will only have 1 per cent of any pay rise counted when calculating the salary their pension is based on.

On July 7, Ross signed a £1m deal to join private-sector ITV.

Coincidence? Probably – in fact, Ross had decided not to renew his BBC contract back in January. But, as a man whose timing has always been more commercial than comic, he could see the writing on the wall, as well as on most pages of the Daily Mail: no more public-sector pay and pension bonanzas.

But it’s not just BBC types in Armani jackets who will be up in arms. A good number of corduroy and leather-patched sleeves might soon be raised to vote for strike action, according to recent reports. On the same day that Ross was signing for ITV, negotiator Sir Andrew Cubie was casting a vote to phase out the University Superannuation Scheme’s final-salary pension. It will mean 100,000 academics face a big increase in their pension age, higher pension contributions and a switch from a final salary to a career average pension – which will “inevitably” lead to industrial action, according to the pedagogues’ union, the UCU.

It is the beginning of the end of public-sector pensions – and the end of an era.

And the real reasons for this also became clear this week. On Tuesday, the Public Sector Pensions Commission (PSPC) – a body set up by the Institute of Directors and Institute of Economic Affairs, and not to be confused with the government commission being run by John Hutton – revealed the true value of public-sector pensions: twice as much as stated.

According to the PSPC report, the main unfunded public-sector schemes have combined employer and employee contribution rates “artificially” set at about 20 per cent of salary, but the true value of such schemes, when measured using a discount rate based on the current yields on index-linked gilts, is a lot more than 40 per cent of salary.

Co-author Neil Record calculates that employees contribute 6 per cent of pay and employers an additional 14 per cent – but, over 40 years, a typical public sector worker needs to have 48 per cent of salary paid into a scheme every year of his career to cover the pay-outs at the end of it. At present, the Treasury – ie the taxpayer – covers this 28 per cent gap.

It’s not just Jonathan Ross and Stephen Hawking bumping up the cost, either. Research shows that the “true” value of a male teacher’s pension is 34.7 per cent of salary, while a policewoman’s pension is worth 71.8 per cent of salary.

As a result, the PSPC proposes that public sector pensions must in future only accrue benefits at one-80th of final pay for every year of membership, not one-60th; must be payable no earlier than 65, and must cost workers an extra 2 per cent of salary.

But before policewomen and primary school teachers make a dash for the private sector or the picket line, it’s worth remembering that these benefits can be replicated – at much lower cost.

All you need is a tax-efficient flexible plan, and some other pension assets that are worth twice what they seem.

With an equally tax-efficient defined contribution scheme, the cost of a pension need not be so great – if you can achieve a net investment return of 6 per cent a year, and start early. A 20-year-old trainee teacher or policewoman need only contribute 15.5 per cent of earnings to retire on the equivalent of two-thirds of final salary, based on calculations by advisers Hargreaves Lansdown. A 35-year-old university lecturer can still build up a pension of half final salary by starting to contribute 23 per cent. Using other more flexible tax-efficient plans, such as corporate individual savings accounts and self-invested personal pensions can only help.

Then you just need to find some pension assets that are worth double their stated value. Improbable? Not if you manage your own portfolio and take a value investing approach – or buy a “deep value” fund. In recent years, shareholdings in
companies such as Wm Morrison, Delta and GNE have all been valued at a lot less than their actual book value – delivering impressive returns when this “hidden” value was realised in the share price.

I know it can be done. I met a value investor this week who has built up a retirement fund worth £1.65m just in Isas. Even Jonathan Ross on a pay cut could fund his own Isa with £10,200 a year.

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