29 Nov 2018
Our Head of DC Consulting, Mark Jaffray, answers questions around some of the biggest issues currently facing DC pensions.
Q1. What one piece of pensions policy would you like to see carried forward in 2019?
If I could support one policy goal on my ‘pensions wish list’ it would be for those that would improve outcomes for the population more generally. In my view, this would include extending the AE regime to the self-employed and examining the tax relief to the low paid and inequity in the tax relief more generally. I would also want to see the government take a renewed lead on pensions dashboard. Evidence from other countries is that when individuals can see all their entitlements and pension pots in one place they are a lot more engaged with pensions and more likely to plan better for their retirement.
Q2. Auto-enrolment minimums are set to hit 8% of pensionable salary next year. Should further increases be put in place?
A step up to 8% is welcomed as a positive step to improve money in and outcomes. However we know that 8% still isn’t enough. The PLSA recently reported that an 8% contribution rate is likely to mean that 51% of savers (13.6 million people) are unlikely to meet the Pension Commission’s Target Replacement Rate (TRR) for median earners of just under £20k p.a.. Instead, a stepped increase to 10% and 12%, would be good to limit the immediate impact of costs of higher contribution rates to individuals and businesses. Perhaps more immediately worrying is the numbers of self-employed people (5m+) in the UK not being forced to contribute to a pension. Maybe we should focus on them?
Q3. Should the charge cap on DC defaults be amended to facilitate greater investment in patient capital?
Some flexibility could be built into the charge cap to allow for charging structures that are common to patient capital investments, for example around performance fees. This could work in principle, i.e. higher fees are only paid in return for higher returns and better outcomes. That said, at 0.75% p.a. this seems a reasonable total annual charge for an individual and I wouldn’t be in favour of increasing that per se. I would want to see a lot of evidence that any investment (patient capital included) was going to produce expected returns higher than other assets to justify any meaningful relaxation of the current charge cap.
Q4. The Autumn Budget left pensions taxation alone despite perennial worries from the industry. Is the current system fair, or should a flat rate of tax relief be introduced?
Given the lack of news coming from the Treasury in advance of the budget I wasn’t completely surprised by tax relief’s absence. There is clearly an inequity that exists as high earners receive a larger share of the c£35bn p.a. tax relief the government spends each year. This is partly down to the fact they have higher salaries and higher contributions and crucially are taxed at a higher rate. A single flat rate of relief applying to every individual would be fairer.
A current issue and perhaps one that needs addressing more urgently is the inequity between tax relief received by non-taxpayers in schemes. This could impact around 1 million of the UK’s lowest earners. Non-tax payers that are in schemes operating a relief at source (and do get tax relief on their contributions) are essentially 20% better off pension wise, compared to similar individuals in a ‘net pay’ arrangement (who do not receive tax relief).
Q5. How should pensions policy adapt to protect broader financial wellbeing?
For many young people with debts attracting interest at relatively high rates, saving for retirement may seem financially illogical, why save and earn say 5-6% p.a. when debt is costing you 10% p.a. plus? Pensions policy could respond by allowing some flexibility to ‘convert’ pension contributions (perhaps even those from auto enrolment) to be used to pay off debt. Some employers do allow pension contributions to be taken as cash for a part of their contribution or for a temporary period in order to allow people to pay off debt. That seems like a sensible idea.
However, it is important to strike a balance. Some employers offering full flexibility in this way have found that employees find it difficult to increase saving again once they have got used to the additional ‘cash’ coming from their pension contributions. Longer term, this is not great as diverting money away from individual’s pensions will make it harder for them to generate good retirement outcomes.