Morten Nilsson, CEO of NOW: Pensions said:
“With the general election just two months away, we could soon have a new pensions minister. The outgoing administration should be applauded for its excellent work on auto enrolment, charges and governance, but there are a number of pressing issues that should feature on the new minister’s to-do list.”
1. Remove ‘qualifying earnings’ so 8% is 8%
Currently, auto enrolment minimum contributions only have to be made on qualifying earnings.
For the 2014/15 tax year this is set by the DWP between £5,772 and £41,865 a year. This means that the first £5,772 of an employee’s earnings isn’t included in the auto enrolment calculation. For example, if a worker earns £20,000 their qualifying earnings would be £14,228. The maximum amount contributions can be based on is £36,093 (£41,865 minus £5,772) for the 2014/15 tax year.
The ‘qualifying earnings’ approach is not only potentially misleading – many people assume they are contributing 8% of their entire salary – but also hits low earners, women in particular, disproportionately. For someone on £10,000 a year, 8% of qualifying earnings actually means just 3.4% of their total salary is being contributed. So when they come to retire, they will have saved less than half what they expected. An urgent priority for the new pensions minister should therefore be the removal of qualifying earnings, with contributions instead being based on every pound of earnings.
2. Make sure low earners have a chance to benefit from auto enrolment
The current system is also excluding too many people from auto enrolment. While 5.1m workers had been auto enrolled into pensions by the end of January, an almost identical number had been excluded from pension saving, mostly on the grounds that they do not earn enough to qualify.
By restricting auto enrolment to those earning at least £10,000, the rules exclude millions of low paid workers, particularly women, who earn less than that, even if they have several jobs that together add up to more than £10,000. To help address this, the trigger for being included in auto enrolment should be linked to the threshold for National Insurance contributions lower earnings limit (currently £5,772).
3. Establish cross-party consensus on automatic transfers
One of the side effects of auto enrolment will be a proliferation of small pension pots. The government is right to address this issue sooner rather than later but getting any automatic transfer system up and running is going to be a huge undertaking so cross-party consensus is a must.
We believe transfers should only be allowed to schemes that have been independently verified as meeting strict standards such as the Pensions Regulator’s master trust assurance framework or the National Association of Pension Funds’ Pensions Quality Mark.
We also think the government’s definition of ‘small pot’ is too small. The proposed £10,000 limit is too low to be engaging to scheme members – given the rule of thumb that engagement kicks in when a pot approaches annual salary level; we think the limit should be £25,000.
4. Give consideration to auto escalation
Once these priorities have been addressed, we would urge the incoming pensions minister to think about going beyond 8%, which any financial adviser will tell you is not enough to achieve a comfortable retirement. The independent Pensions Institute, part of Cass Business School, argues the best way to increase contributions to 12% – 15%, which is generally accepted as sufficient, is through a technique known as auto escalation. Auto escalation sees employees nudged into diverting annual pay increases into their pension plan. As with auto enrolment they have the right to opt out, but auto escalation has the behavioural advantage that workers do not miss money they have never had.
5. Extend flexibility to younger generations
The nature of pension saving is fundamentally changing. With over 55s being afforded greater flexibility with how they access their pension pot at retirement, perhaps now is the time to think about whether more flexibility should be extended to young savers to help incentivise saving. In New Zealand, the government’s KiwiSaver workplace pension saving programme, allows savers to make withdrawals to help fund a deposit for their first home or if they are seriously ill or suffering significant financial hardship.
With many young people being deterred from pension saving as they struggle to get a foot on the property ladder, giving greater consideration to initiatives such as these would be well worthwhile.
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