‘How could inflation measurement changes affect my income?’
If the Government replaces RPI with CPIH, what will happen to existing contracts? I am currently in receipt of an annuity paying just over £15,000 that increases in line with RPI, while my wife has a small defined benefit pension which also enjoys RPI-linked rises. Will our incomes effectively be cut?
Tom Selby, AJ Bell Senior Analyst says:
The Retail Prices Index (RPI) has been widely lamented as an inflation measure by statisticians, politicians and others for flaws in the way it calculates the shifting cost of the things we buy.
In 2013, RPI was formally stripped of its status as a ‘national statistic’ by the UK Statistics Authority (UKSA), while both the Bank of England and the Government have argued for some time that it overstates inflation and therefore gives holders of products linked to it an uplift every year.
In recent years the Consumer Prices Index (CPI) and more latterly CPIH (a version of CPI that includes housing costs) have been the preferred measures of price changes.
Despite this, RPI continues to feature significantly in the lives of millions of savers and investors. In particular, index-linked gilts – which often feature in the investments of pension funds – rise in line with RPI, as do the incomes of many defined benefit (DB) scheme members, where RPI increases are written into the scheme rules.
In addition, a substantial number of annuities – which pay a guaranteed income for life in retirement – are also linked to RPI.
The Government has promised no change will be made in relation to RPI until 2025, with a more detailed update on future plans – which could see the measure scrapped altogether – expected at the Budget on 11 March.
We don’t know what will happen if and when RPI is replaced, in particular in relation to existing contracts such as those you have described. There will certainly be pressure on the Government to ensure people who have signed up to RPI are not materially disadvantaged.
The reason many savers and investors are concerned is that RPI, on average, tends to be about 0.8 percentage points higher than CPI (and CPIH, which has generally been similar to CPI since it was created in 2016).
To give you an idea of the impact this could have over time, someone with a £20,000 a year annuity rising by 2.8% a year would enjoy income of about £947,000 over a 30-year retirement. If the same £20,000 annuity increased by 2% a year then over the same time period they would receive about £120,000 less.
Unfortunately there is nothing you can do at this stage but wait and see what unfolds in the coming months. In the meantime, anyone buying a product linked to RPI should factor in the risk that over the long-term its value may drop.
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