How Pensions are getting fairer.


I was speaking with a Scottish friend , an academic and one of the few  politicians I know who was brought up without a lot of money in the family. I had to phrase that carefully, for when  I first wrote “poor family”, I realised the ambiguity. There is nothing poor about being poor.

His point was that long-term saving meant something different to him as a child than it does to him as a former Shadow  Pensions Minister. Long-term saving for a low-income family means saving for Christmas or for a holiday. The idea of investing for the future is something for other people.

The class divide between “saving” and “investing” is one that people are uncomfortable with. By people , I mean my kind of people, people who have had it inculcated into them that saving for the future is an abstract good. I am embarrassed in talking about this with Gregg because it has taken me 53 years for the coin to drop – so hard-coded has the benefit of investment been to me.


Institutional prejudice against low-earners

It also explains why institutions like the NAPF , the Investment Association and the ABI find it so hard to talk to ordinary people about pensions. Riding the tram into Edinburgh , I railed against the conference of big-wigs from the pensions industry at Gleneagles hotel this weekend. Collectively it is a jamboree, each individual within that jamboree is confirming (at however much a night) that they the thought leaders. As Jonathan Lydon wrote

“Bet you thought you solved all our problems, but you are the problem”.

The problem with the long-terms savings industry (pensions being the  epicentre) is that it is fundamentally unfair. It is so biased towards the needs and aspirations of one sector of society and so ignorant of the needs of another, that it cannot help itself.

Sitting behind me on the tram was one of the people who I railed against. She is a good lady – but she runs a scheme that is hugely unfair to its lower paid employees. The example below explains how.

Short service refunds are unfair on low-earners

For the past goodness knows how many years, occupational pension schemes have been able to provide short service rebates of contributions to people leaving schemes in the first two years of joining them. This has been sold as a benefit to staff who may get a little extra windfall in their final pay-packet representing the contributions they’ve made to their pension scheme – less tax.

It isn’t any such thing, the pittance returned does not include the money invested for them by their employer and it may be that they get taxed on the way out, without getting tax-relief on the way in. Either way, they are giving up any entitlement to a benefit in retirement for their period of service with the employer.

The majority of short-service employment is among low-earners, short-service refunds deprive low-paid migrant employees of pension rights. Longer serving employees are subsidised by short-service refunds. Longer-serving employees tend to be higher paid- they are the highly valued staff that employers “want to retain”.

But it’s worse than that. Short service refunds create a pool of money that is used by the trustees of the pension schemes to pay their bills, these are typically the bills of the advisers who consult on scheme design. There is an obvious conflict of interest here, the savings to a company from refunds pay for the advice that perpetuates the system.

Net pay makes short-service refunds even worse for low-earners

But it’s even worse than that! Because of the recent increase in the nil-rate band on which people pay tax, there are hundreds of thousands of people in low income jobs who no-longer pay tax. They are however paying pension contributions- because they are being enrolled into pension schemes (many for the first time).

The vast majority of occupational pension schemes operate under a “net-pay” agreement with the inland revenue where employee contributions only get tax-relief if the individual pays tax. So these people are getting no tax-relief on the way in. However all short-service refunds are being taxed on the way out. You can read the rules here.

Denied tax relief on their contributions, taxed on the return of their contributions and with nothing to show for their “pensionable service” except a poxy refund in their final pay-packet, low-earners leaving in the first two years of being in a company pension scheme are being ripped off.

It does not have to be unfair. Personal pensions operate a system of tax-relief on contributions known as “relief at source”. This means that low-earners get basic rate tax-relief (at 20%) even if they don’t pay tax. So for everyone earning under £11,000, the net pay system is a disaster- they should all be taxed using relief at source.



So who gets hurt?

If you are in one of the big private occupational pension schemes and a low earner, you may be getting no pension tax-relief and will be getting taxed on your pension refund if you leave in the first two years. Frankly (if this happens) you would have been better off not joining the scheme – purely on tax grounds.

The Government reckons 20,000 people are currently getting DC short service refunds (2014 figures) and that this will increase (because of auto-enrolment to 27,000 within the next year).

There are exceptions, most of the new occupational mastertrusts such as NEST  and Peoples Pension do not allow short-service refunds. NEST does not operate under net-pay, Peoples allows net pay and pension relief at source (though it’s not yet very good at explaining why relief at source is needed by low earners)

.So if you are in NEST or in some versions of the Peoples Pension- you won’t (as a low-earner) get ripped off either on tax relief or from leaving early

Disappointingly NOW pensions takes contributions on a net pay basis,  If you are earning under £11,000 and in  NOW pensions, you are probably missing out on tax relief needlessly. However NOW does not allow short service refunds.

If you are in one of the big private occupational pension schemes and a low earner, you may be getting no pension tax-relief and will be getting taxed on your pension refund if you leave in the first two years. Frankly (if this happens) you would have been better off not joining the scheme – purely on tax grounds.

The Government reckons 20,000 people are currently getting DC short service refunds (2014 figures) and that this will increase (because of auto-enrolment to 27,000 within the next year).

We do not know the numbers of people in net-pay schemes paying contributions but getting no tax-relief. But I suspect it is very many more than 20,000. It is only a matter of time till some canny lawyer picks up on this , teams up with some employee representatives and starts a class action.


And why are pensions getting fairer?

Not before time (and it was announced in 2011!) the Government is finally going to ban short service refunds (for DC occupational pension schemes) from next month (October 2015).

The Impact Assessment produced last year shows relatively modest change. The change will cost employers around £15m , will benefit employees by £20m* and the revenue will miss out on the balance by way of extra tax receipts.

* The benefit to members includes the longer term benefit of staying in a pension savings while other costs are calculated immediately. 

Although the macro- figures are relatively small, for the people who will benefit , the benefits are big;- and since no low-earner knows whether they’ll stay 2 years, there are many more people who could benefit than in the assessment.

For the 20,000 people who will benefit, there is a benefit of around £1,000 per head. A lot of money for low-earners who form the bulk of those who get refunds.

These numbers do not include the double-whammy impact these low-earners had from paying tax on the refunds when they weren’t tax-payers and not getting tax-relief on contribution (because they were non-tax payers)!

A little better…

The long-term benefit of this little change is that “poor” people are not going to miss out from joining a scheme and then leaving the employer within two years.

Companies will lose out and it will be harder for advisers to collect their fees from the slush fund created by refunds. (There will be some administrative savings to offset this but the £15m figure includes these).

Hopefully, with the slush fund (sorry conflict of interest) gone, more occupational pension schemes will be advised to switch to a relief at source basis by advisers.

Whether the third party administration systems that most large occupational systems rely on, are up to administering relief at source is the subject for another blog.


But still a long way to go!

All is still not well. The central problem which is that companies don’t run pensions for low-earners is still the root of the problems

So large employers will continue to operate their schemes on a net pay basis (handy for higher rate tax-payers , dreadful for those who don’t pay tax).

They will do so because they always have and because there is no commercial imperative to move to a relief at source system of taxation. The advisers who should be pointing out the need to move to relief at source, have had no incentive to do so – the cost benefit analysis of switching a scheme to retirement at source doesn’t add up.

In any event, it really doesn’t matter to employers, how the low paid are pensioned because pensions are for high paid people (who create the pension policy and are probably tucking into breakfast at Gleneagles as I type).


The mountain of unfairness still to climb

Short service refunds will continue, even after next month, for those in defined benefit schemes. The Government has yet to take on this problem or the more general inequality of defined benefit schemes which absorb the vast majority of the tax-payers money.

Actuaries will argue that – relative to the DB problem – the changes to DC are just tinkering. It’s true – but every time that DC gets better, DB seems less fair. The threat to DB is structural and its edifice is falling away ever year.

The likely impact on the pensions system of the current consultation on the taxation of contributions will dwarf that of short-service refunds. It is how the unfairness of the net-pay treatment of the low-earners will be addressed.

I say this with sadness, as the occupational pension schemes (and Mastertrusts operating net-pay) could and should move to relief at source today. That they don’t do so , is indicative of their lack of focus on those who are low-earners.

As I started, so I’ll finish. The people who run occupational pensions in this country (and most of those who run master trusts) do not understand and empathise with poor people. They talk about investment for the future while poor people talk about saving for Christmas.

Until we’re all in!

To make pensions fair for all, we need to start with the tax-system, which as Michael Johnson tells us, is set against the poor and aligned to the needs of the rich. We need a pension taxation system which is fair for all – if we are to have “everybody in”!

australian super




About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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4 Responses to How Pensions are getting fairer.

  1. George Kirrin says:

    You should come to Scotland more often, Henry, if such thinking finally dawns on you at last.

    Gregg is right about saving up for Christmas, and also putting something by for “fair” holidays in the summer.

    yours aye, George

  2. Con Keating says:

    Saving versus investment is a more basic issue. When we forego consumption and save, we are basically hoarding some of our income. We expect it to be there if or when we need it. Investment is a very different kettle of fish – we run the risk of losing some or all of it, in return for which we may earn something. The genuinely poor cannot afford this proposition.

  3. henry tapper says:

    The genuinely poor are often to be found in bookies, bingo halls and on internet gaming sites. In my experience they are big investors , it’s usually on bets that win or lose within a few minutes. The point of investment is that it is a long-term thing -Gregg reckons that most people without much, can’t imagine saving for 10 years +. This I believe from my days selling insurance door to door.

  4. henry tapper says:


    It was indeed Gregg.

    I think he may have told me the same thing in the Cockpit in London, but you’re probably right, it wasn’t till he started bending my ear in Edinburgh that I started listening!

    My trip to the library at Innerpeffray earlier this year convinced me that you are a most enlightened bunch George

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