The government is today publishing its first proposals to rebuild confidence and trust in workplace pensions, and reverse nearly half a century of declining membership.
A paper called, Reinvigorating Workplace Pensions, contains new ideas for sharing the risks more equally between employer and employee, and for helping people get the most out of what they save in a pension.
The paper draws on extensive discussions with pension providers, actuaries, investment firms and lawyers, including with an industry working group led by Andrew Vaughan, Chair of the Association of Consulting Actuaries. It contains an emerging strategy on how to deliver real and significant change.
This follows a challenge to the industry earlier this year by the Pensions Minister to develop more attractive and affordable ways to save.
Steve Webb, Minister for Pensions, said:
Automatic enrolment is a huge step forward, but it’s only the start; we must ensure people are saving in high-quality, value-for-money pension schemes.
For nearly half a century, we have seen declining numbers of people in workplace schemes - I am determined to reverse this trend and ensure we have pensions that are affordable to employers and attractive to employees.
To rebuild confidence and restore trust in our pensions system, we need better value-for-money, good governance and greater transparency. The ideas we are publishing show the progress we are making on these issues.
Now is the time to reinvigorate workplace pensions, if we simply stand by as too many previous Governments have, another generation could miss the chance to put something by for their old age.
The Department for Work and Pensions’ paper includes a range of ideas for restoring confidence in pensions, including; the creation of new Defined Ambition pensions, achieving greater scale in pension funds, more transparency on charges, and other ways to help people recognise a good pension scheme.
Andrew Vaughan, Chairman of the Association of Consulting Actuaries and Chair of the DWP’s Industry Working Group said:
The paper demonstrates how industry has worked creatively with Government to develop ideas on Defined Ambition. This is a very good start and we look forward to continuing to work closely with DWP as Defined Ambition develops.
Key findings in “Reinvigorating Workplace Pensions” include:
Defining ambition for pensions
Defined Ambition (DA) has been put forward by Steve Webb as a way of bridging a perceived gap between the two main pension saving models in the UK - Defined Benefit (DB) and Defined Contribution (DC). In a DB pension, investment risk rests with the employer, with DC, the individual takes responsibility for their savings level and risk profile.
With a DA pension, risks are shared, offering greater certainty to savers about the final value of their pension pot than in DC, and less cost volatility for employers than in DB. While examples of these types of pensions already exist, such as career average or cash balance schemes, the Government wants to see how it can encourage and incentivise the industry to develop other more innovative products and bring more of them to market.
A number of potential new models for “Defined Ambition” pensions are outlined in the Government’s paper, examples include:
Conversion of benefits - where the employer promises a defined level of benefit, and when the member leaves the scheme by retiring or leaving the employment, the benefit is converted to a cash lump sum of an equivalent value - either to purchase a retirement income, or transfer toa DC scheme.
Moneyback guarantees - where a guarantee ensures a saver gets back at least what they put in could encourage more people to remain in a pension and save for their old age. One way of doing this would be to have a moneyback guarantee funded by a levy on members’ funds. While an employer might opt to pay the levy for an individual, it is likely the payment would be made by the member, relative to their funds. The cost could be kept down if this were a mutualised fund guarantee - i.e. provided not-for-profit by the private sector, or a government-sponsored but industry-funded body, similar to the Pension Protection Fund.
Keeping charges in check
The introduction of automatic enrolment makes ensuring schemes have both clear and value-for-money charges all the more important.
As smaller organisations come on stream over the next five years, the Government will monitor charges regularly across the pensions industry and the Minister reserves the power to cap charges if such action becomes necessary.
The Government is also exploring the idea of a “star rating” system for pension schemes with the industry. It is important that employers recognise and choose quality schemes and that employees value that provision. This could include charges, good governance and transparency.
Quality and value through scale
The Government is also keen to work with the pensions industry to look at whether a pensions market with a smaller number of larger scale, multi-employer pension schemes might offer both employers and employees value for money.
Countries like Australia have collective occupational pension funds, not employer-sponsored schemes. While smaller schemes are still going to offer value in certain circumstances, larger schemes tend to bring higher levels of governance activity.
This paper outlines the possible benefits of scale and thoughts on how to bring it about. In Australia, for instance, trustees are also required to consider whether members are being disadvantaged by a lack of scale.
Escalating pension contributions
Research shows that the level of contributions someone makes into a pension is the most significant factor influencing income in retirement when saving into a DC scheme. Under automatic enrolment, the minimum level of contributions will be 8% of gross earnings, in a band between £5,564 and £42,475 - with 4% from the individual, 3% from the employer and 1% in tax relief from the Government, by the time the programme is fully up and running in 2018.
For many people, however, saving the minimum amount will not be enough to give them the level of income they would like to achieve in retirement. One way of encouraging people to go beyond the statutory minimum, where it is appropriate for them to do so, is by using automatic escalation. As with automatic enrolment, an individual no longer has to take an active role once they have signed up and decisions to increase saving happen automatically when they get a pay rise.
People are advised to shop around to secure the best annuity rate, as this will determine their retirement income for life. To do this, they need transparent information, and the ABI has launched a compulsory code of conduct. The paper also outlines alternatives to lifetime annuities and encourages work to explore more flexible ways for people to use their pension pot to best meet their income needs in retirement.**
Notes to editors: