Public Accounts Committee inquiry into Auto-Enrolment will kick off in less than two weeks
19 November 2015
Adrian Boulding - Retirement Strategy Director at Dunstan Thomas
On the face of it Auto-Enrolment (AE) looks like a storming success. The combined forces of the Department of Work & Pensions (DWP), The Pensions Regulator (TPR) and many pension providers and advisers have worked together in a highly effective manner to roll out A-E to large and medium-sized employers. By March 2015, according to the TPR’s numbers, some 5.2m workers were auto-enrolled. A total of 141,000 employers are going through their staging dates during this financial year to March 2016. Opt out rates have been much lower than originally anticipated at around 10%.
That said it is not all good news. The number being auto-enrolled were almost matched by the number ruled to be non-eligible for A-E (either because they are younger than 22, older than State Pension Age or have annual earnings of less than £10,000). This means about 25% of the workforce have no additional retirement savings from auto-enrolment.Source : TPR’s monthly declaration of employer compliance report
However the real test for A-E is yet to come. Over one million smaller employers have yet to reach their staging dates. Two thirds of these (66%) are micro-businesses with 1 to 4 workers and 16% have only 1 employee. It is clear that smaller employers will need more support to define which employees should be auto-enrolled; which should be offered an option of joining and would be eligible for employer contributions if they did so (those earning between £5,824 and £10,000); and which do not require employer contributions but must nevertheless be offered membership of a pension scheme if they wish to pay by themselves.
For these companies there will be scarce internal resources for handling administration associated with staging and more demands placed on accountants, book-keepers, payroll bureaux, the pension providers and TPR to assist them. Some A-E master trust operators such as Now:Pensions and The People’s Pension have already pre-empted this upcoming demand by announcing the imposition of a modest administration fee alongside a wider range of employer support services.
However NEST itself has decided not to follow suit. This is despite the fact that the National Audit Office has declared in a recent report that NEST’s financing is “inherently uncertain”. It was funded into existence by a flexible loan from the DWP which now totals £387m and is expected to grow to almost twice that figure according to DWP documents released under Freedom of Information requests. The current state of their finances is shown in the financial year to March 2015 where NEST generated income of just £18m, while shouldering costs exceeding £98m. So it’s burning over £1.5m a week right now and it apparently needs to reach £20bn of assets under management (AUM) to be self-sustaining according to its business model. However at the last count in March 2015 it was a long way short of that at just £420m AUM.
Other areas behind the scenes have not quite gone to plan. The pot follows member proposals which Steve Webb backed in 2014 when he ran the DWP have been quietly dropped by his successor Ros Altmann as the department gets to grips with spending cuts and the roll-out of the new state pension.
Dropping pot follows member from the legislative programme does not solve the problem of small pension pots. Automatic enrolment has brought into pensions the high turnover segments of the labour force that previously were left out, either because employers chose not to offer them a pension, or because the employees didn’t join as they didn’t expect to stay long. Today, DWP’s modelling reveals people have an average of 11 jobs over their lifetime, and 25% of people will have 14 or more jobs. By 2050 DWP forecast there will be 5 million small pension pots, and many people believe this is an under-estimate. In the absence of automated consolidation of pension pots we certainly need to find another way to help people keep track of all the savings pots they will be accumulating.
At Dunstan Thomas we are planning to work with major providers to pilot a secure online Pensions Dashboard which, if we get full backing, will automate the process of providing valuations for paid-up and existing pots all in one place online. Consumers will be able to assess the total value of the pension savings they have in A-E schemes and utilise simple intuitive tools to make retirement savings decisions based on real total savings. We think that visibility and transparency are the right way forward to enable people to make better informed choices. The hassle of a pensions transfer is avoided if you can see all your pots in one place.
However, the issue that may well be most discussed and tested, when the key protagonists are called before the Public Accounts Committee for the first oral session on 23rd November, is whether the pots people are building up through A-E can provide an adequate retirement income – for this is surely the ultimate litmus test of success.
What is clear is that minimum contribution levels will need to move much higher than they are today if people are to build up pots capable of underpinning a reasonable quality of life in retirement. Until October 2017 minimum contributions will stay at A-E launch rate of 1% from the employers and 1% from employees’ qualifying earnings. We then move for one year to a 5% total before reaching a steady state of 8% in October 2018, split 3% from employers and 5% from employees.
Within a DC pension, the final outcome will be driven as much by investment returns as by contributions. The uncertainty of stock markets lend themselves to stochastic modelling, enabling predictions to be made of the likelihood of achieving target outcomes.
The Pensions Policy Institute (PPI) October 2013 study entitled What level of pension contribution is needed to obtain adequate retirement income did just this, and their model assumes an 8% pension contribution and calculates the probability of savers reaching the levels of retirement income that had been declared adequate by the Pensions Commission in the run up to A-E. PPI found that lower earners paying in the minimum 8% of band earnings, assuming starting to save at 22 and retiring at state pension age, would have a 63% probability of achieving their target retirement income; whereas median earners have a 49% chance and higher earners only a 40% chance. These are not great odds! And what of the 25% of the workforce ruled ineligible. Will they have to rely completely on the new state pension for their retirement income?
So Ros Altmann’s appearances in front of the Public Accounts Committee may mark the first real test for her. This Committee has teeth and doesn’t give people an easy ride. I expect they will play back to her the “We’re all in” mantra, that so successfully headlined the launch and promotion of A-E, and cite the 5 million left out in the cold that prove this just wasn’t true. Another chink in the armour of A-E is the first £5,824 of earnings that don’t get a pension contribution. The Committee can hardly fail to notice that this bears more harshly on low earners than high earners. And part-timers with two jobs get it knocked off by both employers, so even if they qualify for A-E they may get no pension on their first £11,648 of annual earnings.
But expect Ros to fight back. She has successfully held firm since her ministerial appointment and resisted clamour for micro employers to be let-off A-E. She has lent support in several speeches to industry developing a pensions dashboard as the alternative to pot follows member. And she has recently taken up the cudgel for very low earners who get no tax relief in net pay schemes, even savaging her own regulator for their inadequate employer guidance here. It will be an even contest with blows dealt by both sides, so we should all tune in come 23rd November to see how she fares.