There are a number of reasons why AVCs are increasingly popular to members of occupational schemes, most of them come down to a dirty three-letter word – TAX.
A sensational tax product
- TAX- Budget changes mean that saving more for retirement is no longer penalised by the Lifetime Allowance and is now much less likely to breach the annual allowance.
- TAX- Frozen marginal rate bands means that more people are paying higher taxes on their top band of income.
- TAX- A newer kind of ‘Shared Cost AVC’ is available which is proving attractive to employers and members as it substantially reduces national insurance costs for both.
- TAX – members of some occupational schemes (LGPS is the biggest) can use AVCs to fund tax-free cash, reducing the need to swap pension for cash at disadvantageous rates.
- TAX – investment growth on money purchase AVC pots is largely free of UK taxes meaning it grows faster and leads to bigger pots.
The fundamental reason for paying more into a pension is to get more pension, but when ALL the tax incentives align as they do with AVCs – it is hardly surprising that they are one of the most popular ways for those with excess income to save.
Admin problems and how they’re getting solved.
Until recently, the vast majority of saving has been into pots managed by one insurance company – the Prudential. Unfortunately, Prudential were rather spoiled by this virtual monopoly and fell short of the standards expected of workplace pensions on administration, member service, fund choice and the charges on funds..
Poor performance puts savers off while poor administration can have serious consequences for schemes and members. The failure to properly administer AVC pots can lead to delays in the payment of pensions, and tax-free cash sums. This has meant that AVCs have not always been promoted by employers to their staff. Employers and trustees have been nervous that AVCs could create another moving part in an already complex mechanism.
Many providers who had previously been in the market were also nervous about the complexity of the payroll interface needed to manage AVCs for multi-employer schemes such as LGPS, NHS, Teachers and the Civil Service.
However, a recent development means that the payroll interface can now be outsourced to a payroll aggregator. This development is attractive to AVC providers who tend to not have relationships with individual employers. Relieving the pressure of collecting contributions means that traditional insurers are now more interested in competing against the Prudential, some master trusts are looking to provide a part of their service as well.
Recently Legal and General launched a product using its latest technology and funds to offer AVC savers a comparable product to that available to members of its DC master trusts.
With increased competition, AVC savers can expect to see better service and better returns than they’ve been used to. Trustees can expect to see an end to AVCs holding up the payment of pensions and tax-free cash while employers can trumpet this savings facility as an employee benefit.
Shared Cost – a revolutionary improvement fired by payroll.
For decades, AVCs have been paid out of salary and have therefore attracted national insurance. But with advances in payroll technology, it is now easy to set up contributions as payments by employers with members sacrificing salary in return for a contribution to an AVC pot than can be enhanced by the national insurance they no longer have to pay. For employers their saving of NI goes straight to the bottom line, more than compensating for any extra administration. Indeed, employers find they are incentivised to promote greater pension saving from members, by the incentive of “Shared Cost” – salary sacrifice arrangements.
What’s the call for action?
As an independent expert, keen to improve pension saving and value for money, I’ve been focussing on what has been a Cinderella savings product. If you are a trustee or on a fund board of a scheme that must offer AVCs, you should; –
- Ask your consultant to investigate providers willing to compete for your business.
- Speak to AVC Wise, the leading provider of a fully managed service for Shared Cost AVC schemes (including payroll aggregation)
- Promote to your employers the advantages of AVCs and especially Shared Cost AVCs.
If you are a participating employer in or sponsor of an occupational scheme (whether in the private of public sector, you should be considering reviving interest in AVCs, where staff have access to an open DB occupational scheme.