October 2017 marks the fifth anniversary of auto-enrolment. Stephanie Hawthorne assesses its progress so far and looks at areas for future improvement.
October 2017 marks the fifth anniversary of the start of one of the biggest financial projects this country has ever seen - auto-enrolment (AE).
Based on the science of 'nudging' - people do the right thing if you make it easy for them - AE has been a rare pensions success story. Here employees are automatically enrolled in a pension scheme and have to take positive action to leave or 'opt out', with opt-outs averaging at around 10%.
According to The Pensions Regulator (TPR), by the end of July 2017 more than eight million workers had been successfully auto-enrolled into a workplace pension and more than 700,000 employers have completed their declaration of compliance over the same period. A further 600,000 small and micro-employers have to work through their workplace pension duties. The current schedule for employers to meet their duties comes to an end in February 2018, at which point all businesses with a pre-allocated staging date will have passed their staging date.
Indeed, saving for later life is starting to become the social norm. In 2012, 55% of staff were saving into a workplace pension and by 2016 that figure had increased to 78%.
Not all is plain sailing. The regulator's fifth auto-enrolment annual commentary and analysis report showed there were 50,068 uses of TPR's formal powers in 2016-17. This included: 33,716 compliance notices, four warrants, 12,181 fixed penalty notices, 187 statutory demands for information, 1,193 unpaid contribution notices and 2,527 escalating penalty notices.
Strains in the system
And some five years into the project, there are strains in the system. With this in mind, a government review of AE looking at coverage, engagement and contribution levels launched in December 2016 - headed by People's Pension trustee director Ruston Smith, Standard Life head of pensions strategy Jamie Jenkins and Pensions Policy Institute director Chris Curry - is set to publish recommendations for reform at the end of the year.
Pensions experts are vociferous in urging reforms in the areas of adequacy of contributions, complexity, and extending coverage to the lower paid and the self-employed.
Sackers partner Claire Carey sums up the situation: "The main purpose of AE was to get as many people saving for their retirement as possible. Despite the significant numbers of workers who have been automatically enrolled since 2012, there are still many categories of worker for whom the system does not hit the mark."
One of the most glaring gaps is the omission of the self-employed. One in five people are now self-employed or in non-regular employment, which means a growing army are excluded from AE. In particular, Britain's 4.8 million self-employed workers have largely missed out. Unless they also have a job with an employer, these workers continue to be among the most under-pensioned group in society. Latest estimates from the Department for Work and Pensions suggest that barely one in seven self-employed people contributed to a pension of their own in the last year. Unlike previous generations of self-employed, today's gig workers and contractors will often not be creating valuable businesses which they can grow and sell to fund their retirement.
Furthermore, as more and more employers look to reduce employment costs, especially with the increases to AE contributions on the horizon, they will be pushing more of their workers into the self-employment, as Trafalgar House director Dan Taylor says, to divorce "themselves of the responsibility, cost and complexity of AE".
Experts believe we urgently need something akin to auto-enrolment for the self-employed. Royal London director of policy Sir Steve Webb believes: "This should be some sort of nudge focused on the annual tax return process which would engage with most self-employed people who make a decent income."
Aegon head of pensions Kate Smith echoes the sentiment: "To reverse this decline we need to find a solution that works in a similar way to AE. Increasing National Insurance contributions for the self-employed, and diverting some of this increase to a pension scheme of the individual's choice, acting like an employer contribution, is one solution. This gap is unlikely to be addressed by the review as it's a cross-government issue, but we need to keep the pressure on to stop a growing pensions divide."
Fidelity International head of pensions product Carolyn Jones adds: "And an equally pressing problem is the large numbers of young and low-paid people who are excluded from AE. Jones advocates: "that the age limit of 22 be reduced to at least 18."
Contribution levels and thresholds feature prominently in pension experts' wish list for reform.
The Association of Consulting Actuaries' (ACA's) 2016/17 survey of smaller firms highlighted that more than 40% of workers employed by 840,000 micro employers (i.e. those with fewer than five staff) earn less than the earnings trigger and are therefore ineligible for AE.
The £10,000 threshold mostly affects women, disabled, carers and those forced to do multiple jobs to make a living. So it's the very people that you would not want to exclude.
Trafalgar House's Dan Taylor says: "Unsurprisingly, women are most disadvantaged by these regulations, with a higher proportion of women being in part-time work or holding multiple jobs."
The £10,000 threshold was introduced to avoid miniscule contributions going in, so once you go over the £10,000 threshold contributions are paid on a minimum of £10,000 minus £5,876. KPMG pensions partner David Fairs, a former chair of the ACA, urges the removal of the lower deductible "so that AE contributions are paid on all earnings. Given the lower deductible is £5,876, if you removed it for someone on say, £12,000 per annum you effectively double AE contributions and for someone on £18,000 you effectively get a 50% increase in contributions."
Currently the situation is different as Fidelity head of pension product Carolyn Jones explains: "An individual on £10,000 salary with an 8% contribution is only seeing around £330 in their pension each year rather than the £800 they might expect."
Some experts says that the fund would not accumulate to an amount that would provide a meaningful pension but KPMG's Fairs says: "For these people, a sum at retirement of a few hundred or a few thousand pounds could be very significant - it could get them out of debt, provide a rainy day fund etc. Critical here is the fact that they don't have to buy an annuity and can access the money in one or more lumps, with potentially minimal tax consequences because of their likely earnings."
Most experts think the current target of 8% is way below what most individuals need for a satisfactory retirement. Indeed, the ACA has also argued that the contribution level should be increased to 16% going up by one percentage point every two years until it amounts to a proper savings rate. The argument here is that most employers don't object to paying more if they can budget for it sufficiently in advance - the challenge is when additional cost is sprung upon them.
Indeed, a recent Prudential study of workers who have started contributing to pensions through AE shows that more than half (51%) say they could afford to save more. In fact nearly three in 10 (29%) admit they could actually afford to save an extra £100 or more each month.
But Aries Insight director Ian Neale warns: "Despite a strong consensus among pensions professionals that we need to plan for significant increases in contributions, the government is unlikely to act unless and until the present level of anxiety about opt-out rates rising when worker contributions treble next April proves unfounded. The review should strengthen the evidence base for a hike, though."
By contrast, PASA board director Tracy Weller would like to see an option to allow savers to reduce their contribution rate. She says: "This would help to support those on lower incomes who could flex up and down to support their financial needs at any point in time, although would need to be accompanied by regular prompts or people would simply forget."
There are other pressing issues. Royal London business development manager Jamie Clark points to the glaring injustice of employees in net pay arrangements who do not automatically receive tax relief on their pension contributions. He says: "A potential solution would be to make it a statutory requirement for all DC AE schemes to operate on a relief at source basis so an employer's choice of scheme does not deprive them of the valuable tax relief top up to their pension."
AE is overly complicated - something that is also among experts' top concerns.
Sackers' Carey says: "While not a key theme of the review, further simplification of the legislation governing AE would be on my own personal wish list. Despite efforts made over the last few years to simply certain aspects of the requirements, the overall legislation remains fiendishly complex."
PASA's Weller adds: "The rules around AE and the subsequent communications to employees are complex and can switch people off. This does nothing to improve employee and saver engagement in pensions.
"This could be an opportunity to review and simplify the process and increase engagement. However, any changes to the process could mean additional cost for employers as they revise their systems and processes to support any change. While this may not be welcomed by employers, perhaps it would be an opportunity for administrators and providers to make processes much more efficient and flexible."
The sheer complexity of AE legislation is its Achilles' Heel - particularly as micro-employers carry out their duties and even more so, if the self-employed are brought into the net.
Aries Insight's Neale concludes: "The government must get a grip on the ever-expanding volume of complex legislation (only recently we have had yet another set of amendments to the employer duties). Compliance is increasingly challenging for small employers and could be even more so for self-employed individuals."
PMI president Lesley Alexander and the institute's immediate past-president Lesley Carline talk about the challenges of Covid-19 and the opportunities and challenges the industry faces in the future.
The Pensions Administration Standards Association (PASA) has announced global consultant Deloitte as its expert knowledge provider for data.
This week’s top stories included further support for an overhaul of the pension tax regime, while the Treasury confirmed the Retail Prices Index will be reformed by 2030.
Tim Shepherd and Beth Brown look at the legal implications of working from home and how pension professionals can mitigate the risks.
XPS Pensions posted a 9% increase in revenues during the six months to 30 September – a rise driven by a number of large client wins.