Review of Discount Rate for PSPA March 2022 valuation

Summary

The requester asked for details regarding the review of the discount rate used in the March 2022 PSPA actuarial valuation, specifically seeking reports or correspondence on the methodology and experience analysis. The Treasury disclosed a document summarizing discussions between PSPA and Treasury officers which confirmed the decision to maintain the 4.5% discount rate based on historical income growth and population projections.

Key Facts

• The discount rate of 4.5% was maintained for the 31 March 2022 valuation following discussions between PSPA and Treasury officers.
• The decision considered using the UK derivation of the discount rate but rejected it due to the lack of a direct link to the Isle of Man economy and ongoing UK consultations.
• Historical income growth was analyzed, showing a mean rate of 3.45% per annum, supporting the retention of the 3.5% income growth assumption.
• Population growth projections indicated a need for 0.87% annual growth to reach 100,000 residents by 2041, justifying a 1% addition for income growth.
• The final recommendation combines a 3.5% income growth rate and a 1% population growth addition to arrive at the 4.5% discount rate.

Data Disclosed

• 4.5%
• 31/3/22
• 3.5%
• 4.35%
• 0.97%
• 100,000
• 2041
• 0.87%
• 1%
• 2.35%
• 3.10%
• 3.45%
• 15,000
• 50+ years
• 2020/21
• 2021/22
• 2004/05
• 2022
• 2019

Original Request

Dear Treasury and PSPA, I note that I was only able to choose one department for this information request to go to, but that the PSPA is also relevant here and so I am addressing both. The March 2022 Actuarial valuation of the PSPA was recently released to the public: https://www.gov.im/media/1389669/240223-isle-of-man-public-sector-pensions-authority-schemes-31-march-2022-va_compressed.pdf As shown by the sensitivity analysis on page 18, the discount rate is a key driver of the results. Page 10 of the valuation report states: "For the 2022 valuation, this assumption was reviewed by the PSPA and IoM Treasury and was deemed to still be an appropriate and realistic long-term assumption." I would like you to provide details of this review. If there is a report detailing how the review was performed and summarising the findings of the review then this will be sufficient. If there is no such report, then I would like you to provide information in the form of emails, letters, word documents or other written documents which include sufficient information to both confirm that such a review was performed and to understand what such a review consisted of and its findings, and where relevant excel files which provide supporting calculations. In addition to the above I would like you to confirm whether an experience analysis for the discount rate was performed and if so provide details of this. For example, was the projected 4.5% discount rate compared to the actual "IoM Government's future expected income growth (derived from taxes and company profits)" which it is a best-estimate assumption of. This analysis would also be expected to include net migration figures. Kind regards,

Data Tables (1)

Data Tables (reformatted)

Full Response Text

Page | 1

Discussion on the Discount Rate to be used for PSPA actuarial valuations between PSPA CEO and Treasury Officers

The PSPA Executive has been in discussion with Treasury officers as to how the Discount Rate should be derived for the 31/3/22 actuarial valuations of schemes. Officers have provisionally agreed that the current rate of 4.5% should be maintained for the forthcoming valuations (subject to approval by the PSPA Board and any subsequent comments from the Treasury Board), but that the PSPA and its actuaries should between them keep an eye on the UK consultation on the discount rate methodology to see if this can be applied or used for the island’s unfunded schemes in the future or whether a separate derivation is still required. The discussions undertaken on the discount rate between the PSPA and Treasury officers can be summarised as follows: Options considered:
 Use UK derivation of the Discount Rate (DR) given IoM economy is in some areas closely linked to the UK;  Continue with IoM Income Growth in the absence of an IoM measurable GDP. Use UK derived GDP (or agreed new) basis:  IoM economy linked to UK in some ways, but not necessarily on GDP growth;  But, we don’t know what new UK basis post-consultation might be (UK basis currently under review and subject to consultation) and there is no timescale as yet for completion on the UK consultation we understand;  UK measure not directly relevant to IoM;  Would be a significant change from the current basis – we would need to decide if this was too big a change after reviewing the consultation. IoM previous Income Growth projections:  3.5% Income Growth rate has historically perhaps been a little low given better than expected VAT and taxation receipts – nearer to 4.35% pa in last few years (excluding Covid-related period);  IoM is very small to look at in isolation. However, current 3.5% pa assumption is not an unreasonable assumption based on where Government receipts are expected to be at least in the next few years and also historically (see below). The position discussed with Treasury officers was therefore to leave this where it is (3.5%) but review any change in the UK derivation of the Discount Rate following the current consultation to determine if it would be applicable in the IoM.
IoM net migration growth in income:  Population growth over last 55 years has been c 0.97% per year;  If there was a desire/will to grow the current population to 100,000 by say 2041 (+20 years’ time), this would require an annual growth rate of 0.87% pa. A 15 year

Page | 3

2020/21 1013 -12.52 Source: Detailed Government Accounts

Average Growth rate 2004/05 to 2021/22: 2.35% per annum (inclusive of 2020/21), 3.10% per annum (excluding 2020/21 Covid period) with a mean growth rate of 3.45% per annum. Recommendations put forward for consideration by the PSPA Board as part of the valuation assumptions: 1. If we assume that in the long term (50+ years), the year 2020/21 (and probably 2021/22 when available) are relative “blips” in the island’s long term income growth rate, then maintaining the current income growth rate of 3.5% per annum for Discount Rate purposes when considered historically and with regard to future VAT returns still appears to be appropriate in the long term; 2. Population growth addition - given the comments on future population growth above, if Government policy remains to grow the economically active population by c 15,000 over the longer term, then the additional income growth via the population increase can justifiably remain at the current rate of 1% per annum; 3. This would give an overall Discount Rate for the 31/3/22 valuations maintained at 4.5% per annum and in line with the 31/3/19 valuations; 4. The PSPA and its actuaries should continue to monitor the UK derivation of the Discount Rate for the UK unfunded public sector pension schemes and should consider in the future whether aligning to any revised UK basis would be appropriate for the Isle of Man’s unfunded schemes.

Isle of Man Public Sector Pensions Authority | Hymans Robertson LLP April 2022 006

Options for deriving the discount rate at the 2022 valuation As noted above, it is best practice to set the discount rate in a manner consistent with the expected method of funding the benefits (e.g. for funded schemes, setting the discount rate relative to the expected return on the scheme’s assets). This allows users of the valuation to understand the realistic cost associated with providing the benefits to members. With the Schemes ultimately being funded by the IoM Treasury, it would therefore be preferable to continue to set the discount rate relative to the expected future revenue growth of the IoM Government. There is no perfect or correct method for estimating this growth rate. As such we have outlined options for the PSPA to consider when setting the discount rate for the 2022 valuation. Broad methodology Bespoke method This is the current approach taken to deriving the future revenue growth rate. It is based around the view that the Government’s income is primarily from taxes and company profits and made up of two elements:

6 https://www.thepensionsregulator.gov.uk/en/document-library/research-and-analysis/scheme-funding- analysis-2021#161ee090e36d4bd2b09848a600c3327b Out of scope Isle of Man Public Sector Pensions Authority | Hymans Robertson LLP April 2022 007

1. Future expected growth rate linked to current population
2. Additional growth due to the impact of net migration This approach was based on discussions with IoM Treasury as part of the 2016 valuation. We are not aware of any changes to the nature of the IoM Government’s income that would invalidate this approach but would welcome comment from the PSPA and/or Treasury. If this approach is still deemed the best approach, then consideration will be needed about the rate of growth associated with each of the two elements, and how the rates are calculated and justified. Future GDP growth This approach is similar to that used by the UK Government and would be appropriate if the PSPA believe there is a direct link/correlation between future GDP growth and the UK Government’s income growth (the UK Government believe this is the case for the UK). GDP is typically a widely available robust statistic for countries, and it may be easier to select and justify a future growth rate if its derivation is directly linked to GDP. However, this would be dependent on the IoM Government’s income growth being linked/correlated to GDP growth. The GDP approach was adopted for the 2013 valuation of the Schemes. However, at the 2016 valuation, after input from IoM Treasury stakeholders, the current approach was deemed to be more appropriate for the Isle of Man. For the 2022 valuation, consideration should be given as to whether the nature of the economy on the Isle of Man is structured in such a way that means GDP is a reliable indicator of IoM Government income. Short-term adjustments When setting the discount rate assumption, typically a single growth rate is assumed for all future years e.g. at the 2019 valuation it was assumed growth would be 4.5% p.a.. It is possible to adjust the assumption to reflect short-term expectations. For example, there may be more certainty/confidence about the growth rate in the next three years or there may be economic conditions present such that the short-term growth is higher/lower than the long-term rate. In these situations, the assumption could be derived as X% for years 1-3 and Y% for years 4 onwards. Some people favour this approach as they believe it results in a more realistic assumption about future growth rates by taking into account known short-term factors. However, this needs to be balanced against:  The other financial assumptions used in the valuation (salary increases, benefit increases) will also need to be adjusted to reflect short-term expectations. This ensures consistency in the assumption set. This will require additional administration effort and cost.  The duration of the liabilities of the Schemes is very long-term. Therefore, it is the long-term growth rate that is important and will have more of an impact on the valuation results. Given the above, we would suggest that unless the PSPA believe short-term growth expectations are significantly different from the long-term rate, no adjustments are made for the short-term when setting the discount rate assumption at the 2022 valuation. Prudence margin As noted earlier in this paper, some pension schemes carry out their valuations on a prudent basis, with the prudence loading being incorporated into the discount rate assumption. Historically the Schemes’ valuations have been carried out on a best-estimate basis with no prudence loading. We would advise that this approach is continued for the 2022 valuation as: Isle of Man Public Sector Pensions Authority | Hymans Robertson LLP April 2022 008

 There is no regulatory requirement to carry out the valuations on a prudent basis. This is primarily because the Schemes are unfunded so there are no monies set aside to pay for future member benefits.  Incorporating a prudence margin will result in the valuation results not reflecting a long-term realistic cost of the benefits. This is a risk if the valuation results are then used to inform debate or relied upon when discussing the future affordability of the Schemes. If the PSPA does wish to include a prudence margin in the valuation for 2022, careful consideration will need to be given to what is deemed prudent (there is no strict definition of prudence for pensions funding). It would be preferable, to help valuation users, if the level of prudence could be quantified e.g. there is a X% likelihood that the IoM Government’s future income growth rate will be higher than the discount rate assumption used for the valuation (using a best-estimate basis the likelihood would be 50%). The PSPA will also then need to consider if the cashflow projections should also be reported on a prudent basis. As noted earlier in the paper, these projections do not use the discount rate (as they are reporting in nominal terms). If a prudence margin was adopted via the discount rate it would not result in prudent cashflow projections, an alternative method would be needed (which we would be happy to explore further if necessary). If the PSPA think it would be helpful to understand the impact on the valuation results on a prudent basis, we could provide an alternative set of results using a prudent discount rate (whilst preparing the main results on a best-estimate basis).

Out of scope

Freedom of Information
Seyrsnys Fysseree

The Treasury Government Office,
Douglas Isle of Man, IM1 3PU

Telephone: (01624) 685605 Email: FOI.Treasury@gov.im

Government Website: www.gov.im

Our ref: 4869713 10 September 2025

Dear ###,

We write further to your request, received 13 August 2025, which states (numbering added by Treasury):

"Dear Treasury and PSPA,

I note that I was only able to choose one department for this information request to go to, but that the PSPA is also relevant here and so I am addressing both.

The March 2022 Actuarial valuation of the PSPA was recently released to the public:

https://www.gov.im/media/1389669/240223-isle-of-man-public-sector-pensions- authority-schemes-31-march-2022-va_compressed.pdf

As shown by the sensitivity analysis on page 18, the discount rate is a key driver of the results.

Page 10 of the valuation report states:

"For the 2022 valuation, this assumption was reviewed by the PSPA and IoM Treasury and was deemed to still be an appropriate and realistic long-term assumption."

I would like you to provide details of this review.

1 - If there is a report detailing how the review was performed and summarising the findings of the review then this will be sufficient. If there is no such report, then I would like you to provide information in the form of emails, letters, word documents or other written documents which include sufficient information to both confirm that such a review was performed and to understand what such a review consisted of and its findings, and where relevant excel files which provide supporting calculations.

2 - In addition to the above I would like you to confirm whether an experience analysis for the discount rate was performed and if so provide details of this. For example, was

the projected 4.5% discount rate compared to the actual "IoM Government's future expected income growth (derived from taxes and company profits)" which it is a best- estimate assumption of. This analysis would also be expected to include net migration figures.

Kind regards,"

Our response to your request is as follows:

Your request has asked for information from both the Treasury and the Public Sector Pensions Authority (PSPA), however the information provided in the attached appendices is based on information held by the Treasury only. If you would like to receive information held by the PSPA a separate freedom of information request will need to be submitted directly to the PSPA, using the following link:

https://iomportal.icasework.com/resource?id=741209&db=iom

The information being disclosed to you is as follows:

Part 1 Please find attached appendix 1 which is a summary of a discussion between the PSPA and Treasury in relation to the discount rate.

Part 2 Appendix 1 also evidences that an experience analysis for the discount rate and net migration was performed. In addition to this the PSPA and Treasury also considered advice from the Scheme Actuary and please find this attached in appendix 2. Please note some of the information in appendix 2 is out of scope of the request and has been removed as follows – Out of scope.

Please quote the reference number 4869713 in any future communications.

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An electronic version of our complaint form can be found by going to our website at https://services.gov.im/freedom-of-information/Review . If you would like a paper version of our complaint form to be sent to you by post, please contact me and I will be happy to arrange for this. Your review request should explain why you are dissatisfied with this response, and should be made as soon as practicable. We will respond

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