Can an incentive be more effective than compulsion? Guest blog from Ralph Frank

carrot and stick

 

The Individual Savings Account (“ISA”) seems to be the savings vehicle of choice of the current Chancellor.  There were two types of ISA, cash and stocks & shares, when the Chancellor took office back in 2010.  The maximum subscription to ISAs in the 2010/11 tax year was £10,200, of which no more than £5,100 was allowed to be directed to the cash ISA.  These ISAs have been joined by the Junior ISA, Help to Buy ISA, Inheritance ISA and Innovative Finance ISA.  The Lifetime ISA is due to be added to the family in 2017.  The annual subscription limits for ISAs is due to rise to £20,000 in April 2017 from its current level of £15,240.

 

HM Treasury has referred to ISAs as “a trusted and effective savings product”.  However, the latest HMRC ISA Statistics seems to indicate a waning level of enthusiasm for the product in recent years.  The number of ISA accounts subscribed for in the 2014/15 tax year, the latest for which data is available, has fallen around 15% from the peak reached in 2010/11.  This decline in ISA subscriptions is, however, consistent with the broader fall in the Savings Rate for households and non-profit institutions serving households over the corresponding period.  The amounts subscribed into ISAs has increased over time as the limits have been increased.  The most significant change in recent times has been the relaxation of the limit on cash savings, which was largely responsible for the increase in ISA subscriptions in the 2014/15 tax year.

 

The number of pension savers has moved in the opposite direction to that of ISA subscriptions since the introduction of Automatic Enrolment (“AE”) in 2012.  Prior to the introduction of AE, there had been a long-term fall in the number of pension savers too.  The Pensions Regulator provides monthly updates of the number of savers saving under AE.  The first data was published in January 2013.  Over 6 million new savers have started saving under AE by April 2016 in addition to a further 10 million who were eligible for AE and already saving.  These 6 million new savers had the opportunity to opt-out of pension saving but have not done so.

 

The Pensions Commission recognised the “inherent inadequacy of a purely voluntary approach” when it came to pension saving in the UK back in 2005.  The factors underpinning that conclusion continue to apply to savings, beyond just pensions, in the UK.  No matter how trusted the brand, how generous the permitted subscription amounts nor how broad the use cases, there is a limit to the number of voluntary savers.  However, compulsion can overcome this limit as AE has proven.

 

How then might Government encourage saving?  Increasing the perks within a voluntary system seems to benefit those who would have saved anyway and have the disposable income to do so.  That said, reducing incentives and/or imposing limits discourages saving, as anecdotal evidence of the reduction of the Annual Allowance and Lifetime Allowance is showing.  Automatic Enrolment has demonstrated the power of compulsion combined with compensation (in the form of tax relief and mandatory employer contributions).  Why fiddle with an effective formula?  The Tinker-man changed his ways and won the Premier League using the fewest players in the league.  Perhaps a similar approach to stability might lead to a winning outcome in savings?

About henry tapper

Founder of the Pension PlayPen, Director of First Actuarial, partner of Stella, father of Olly . I am the Pension Plowman
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1 Response to Can an incentive be more effective than compulsion? Guest blog from Ralph Frank

  1. ancientllm says:

    Henry, it would be interesting to know whether the drop in new ISAs was biased towards cash ISAs. There is no point in having a tax free investment when the interest is (virtually) zero. At least with AE you get the tax back on the money you put in. Perhaps the incentive the Chancellor needs, is to encourage saving via an ISA by utilising the gift aid model to add to our ISAs the tax we’ve paid on our income we used to fund the ISA…… Rob

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