If you changed jobs, would you prefer to stick with your current workplace pension or join your new employer’s scheme (leaving a little pot behind you)?
It’s a tough choice, and the more you think about it, the tougher it becomes. For example, some workplace pensions – the ones that have a fixed monthly charge – are particularly tough on small pots, others – which rely on an annual management charge – are easier to leave behind. Pensions are so complicated, isn’t it easiest not to bother? After all, that’s why auto-enrolment has been a success, people didn’t bother to consider opting out!
But what’s good a small pot to you in retirement, you’ll probably want to “aggregate” it into a bigger pot at some time in the future, so why give yourself the problem? Wouldn’t it be easier to take the pension you started with to each of your future employers and hope that you got lucky first-time round?
I know there are people who say “don’t put all your eggs in one basket” but it’s not much fun having lots of tiny baskets when you are managing your retirement finances! The value of diversifying across lots of workplace pensions is at best unproven!
This is why the Pensions Minister, Guy Opperman is consulting with pension providers about operating a clearing system for auto-enrolment, just as happens in Australia. How this idea might work would be for payroll to pay not to a provider, but to a clearing house, which directed the payment to a provider selected by the member.
The member decision could be simplified into the binary choice I gave you at the top of the article and a default could be used “if you don’t choose to use your current pension, you’ll be auto-enrolled into the new plan”. This is rather easier than defaulting into the “current plan” as that assumes that the current plan is still available to the new member and it mightn’t be able to receive contributions from a former employee.
There are then two obstacles to offering the choice to members, the first is the technology, (the extra cost of clearing) and the second is the nagging doubt it puts in people’s minds -“have I made the right choice?”
Of the two, the second is the hardest. When Stakeholder Pensions were introduced back in 2001, the idea was that because there were no exit penalties, people would be able to take one stakeholder pension to another as easily as we exchange pound notes for loaves of bread. It didn’t turn out to be the case as regulations were introduced requiring people to take advice before moving money.
The reason for advice was it was thought that not all Stakeholder Pensions were created equal and that people could do financial “self-harm” if an adviser was not involved. In practice, advisers learned that they could take hansom commissions in helping people switch money, a practice that was banned from 2013. We now have the awkward situation where people cannot move their own money from pot to pot, but advisers can’t be rewarded by commission for doing so. As people are reluctant to pay advisers fees, the pots tend to stay where they are and the result’s the DWP estimate there will be 50m abandoned pots by 2050.
These pots are expensive for providers to administer. They not only have to keep a record, but ultimately, they have to manage a claim on the pot – which wipes the lifetime value of pot management to the provider. One providers told me he wanted to manage an army of well-drilled soldiers, not a “prisoner of war camp”. The analogy is apt, small pots are captives like prisoners, another provider talked to me of bulking the transfer of small pots as “prisoner exchange”.
In order for us to move on from the problems that are building up for providers and consumers, we need to find a way for small pots to be transferred without detriment to member. This means either reducing the cost of advice to zero or going back to the original premise, that once you’ve sufficiently regulated stakeholder or workplace pensions, moving from one to another doesn’t require advice at all.
In the long term, we need a system that allows us to easily “twist” and move our pots from one provider to another, or “stick” with one workplace provider for our savings careers. Tackling the twin obstacles of technology and advice is now high on the Government’s agenda.