Speaking in Birmingham last week, former pension minister Steve Webb, commented on how hard it will be to raise the bar on employer auto-enrolment contributions from the current 1% of band earnings to 3%
To raise the bar higher still will challenge the ethos of a free-market Government whose one-in-two-out rule means that any new regulation impacting business, would need two existing rules be lost.
But, as left wing politicians, union leaders and most responsible pension experts are as one in telling us, the current minimum contributions are no more than a start. Were they to be considered adequate, they would be mis-selling the prospect of retirement income security.
There are many ways to collect money from working people and pay that money in later life. The most obvious is national insurance, which at 12% of the band of earnings, dwarfs the impact of auto-enrolment contributions. Just where is all that money going? The answer is in sustaining the welfare system we have in place and the “fund” that sits behind the pension promises we are making to current and future pensions.
During the election , there was much talk of curbing the welfare budget but unanimity that the “triple lock” on the state pension should be maintained indefinitely. This means granting everyone at least 2.5% growth on their pension each year. At the time of writing that is a “real” increase of 2.5% (inflation being zero).
But there is simply not enough being put aside to pay for these generous real increases. According to the Government Actuary’s Quinquennial Review of the National Insurance Fund’s finances, the state pension will move into a theoretical deficit from 2020.
Trevor Llanwarne , the recently retired Government Actuary, saw the remedy for this deficit as a reduction in future pensions once auto-enrolled workplace pensions were delivering sufficient security to allow this to happen. At a macro level, at least as Llanwarne was concerned, auto-enrolment was in part a bale out for the national insurance fund and might reasonably be considered a tax.
Green shoots of financial empowerment?
But that is only to tell half the story. People have the choice to opt-out of auto-enrolment – something they cannot do with tax and national insurance. The reason for the opt-out is to avoid compulsory contributions which – it is hoped – will lead to an engagement with the savings process, a higher level of financial education and ultimately empowerment among non-savers, to take responsibility for their own finances.
In as much as auto-enrolment has delivered the country 5 million new such savers, it has been a great success. Whether we can hold on to all 5 million as their contributions increase from 1% to 4% of band earnings has yet to be tested, to push personal contributions (by default) beyond 4% is something that no-one yet has formally proposed.
Yet it seems inevitable that that will have to happen – unless that is that Britain’s economic prosperity increases at such a rate that we (like the Norwegians) have money coming out of our ears. This seems unlikely.
Or a tax on immediate consumption?
Assuming that there is no great increase in productivity that allows for wages and pension contributions to grow, it seems that contribution rates can only increase at the expense of real wage growth. There is little evidence that the increased pension contributions that have happened since the start of the auto-enrolment cycle have contributed to the decline in real wages since 2008.
David Robbins suggests that larger employers have offset the increased cost of AE against the cashflow savings of having to pay pensioners CPI rather than RPI increases.
This kind of thinking works well at an abstract level, but I’m not sure that most CFO’s think like this or budget at such a theoretical level
The Government’s latest impact assessment on employers is (according to DWP’s Charlotte Clark) is likely to show that the cost of auto-enrolment has been in line with original estimates. As it’s generally accepted that the costs of implementing auto-enrolment have been higher than those in the original assessment and the level of opt-outs lower than had been estimated, it is hard to understand how this will be. Again David Robbins offers a possible explanation.
The rate that employer’s costs are absorbed by decreases in real wages could be accelerated making the overall cost of auto-enrolment a zero sum game – a pound into the pension is a pound off the wage bill.
Again I remain unconvinced by such theoretical approach.
Such an approach could only point to auto-enrolment being a tax on immediate consumption, something practically the same as compulsion.In Australia, compulsion was introduced in just this way. Instead of wage increases, people had pension increases. This works well enough when there is wage inflation, since 2008 we have had precious little wage inflation.
Headwinds for a new Pension Minister
Ros Altmann, as any new minister should, is approaching the job with circumspection. If you watch the video on the link, you will see how central the success of auto-enrolled workplace pensions is as her measure of success.
But Ros Altmann faces a lot of headwinds if she is to get people saving to adequate levels using workplace pensions. To recap;-
- We have yet to see the bulk of the contribution increases for the first 5 million “in”
- The second 5 million are coming from employers for whom pension saving is new – this will be tougher
- There is no immediate prospect for wage growth, contributions will impact take home and will not be absorbed by pay increases.
- Any attempt to legislate for higher contribution rates will have to get past the one in two out rule.
- All this is happening at a time when the state pension is being radically increased under the triple-lock, potentially putting even greater strain on the national insurance fund.
The big challenge of the next five years
As I wrote yesterday, the big pension challenge is not with the 50,000 workplace pensions that have been set up under auto-enrolment but with the 1,200,000 that haven’t. Convincing the employers of the 5m of us who have no access to a workplace pension or a contribution from our bosses, is a huge task. There are hopeful signs.
Resignation is better than insurrection! The mood at Accountex 2015 was different than in previous years, accountants and their payroll departments are accepting that AE will happen and are getting ready
But accountants see auto-enrolment as an unwelcome duty on employment which they will have to implement and manage as the employer’s agents. I do not get any sense yet that auto-enrolment is being embraced for any social benefits or as a benefit to staff welfare.
Turning a “have to” to a “want to”.
Without any obvious economic panacea, the next Government is going to have to persuade employers that being “in” is good news. The emphasis has to shift from “have to” to “want to”.
Employers need mechanisms in place that make the administration of auto-enrolment easy, efficient and without risk.
The VAT – a 20% “tax on a tax” that is currently being charged on AE services, should be waived. AE services should be VAT exempt.
Those employers that embrace auto-enrolment should be praised (as those that don’t should be fined). A Government award for “going above and beyond” as envisaged by the Pension Quality Mark is a good idea.
Above all, the Government must stress the workplace pension itself as a “good thing”, the choice of workplace pension as “important” and their proper management (via IGCs and trustees) a matter of primary interest for both the Pension Regulator and the FCA.
Finally, we must set our hearts and minds in restoring confidence in the savings process by ensuring scrupulous standards in the delivery of everything that we, on the supply side, do – to make this happen.