Government’s plan to turn pots to pensions is anything but “potty”

New Year’s Eve is on a Sunday, so a time when we can do a bit of thinking about what’s happened and going to happen – and how we can make a difference.

2023 was Laura Trott’s year in charge of pensions. In fact she was pension minister for just over 12 months (October 22 to November 23) but her year made a big difference as it coincided with the Government turning up the heat on the pension system to start playing its part in a wider economic recovery which definitely didn’t happen this year.

I met with Laura Trott late in 2022 and she outlined her priorities, chief of which was to close the gap between the expectations of those with a DC saving scheme and those with a DB pension promise.

During 2023 , we found out how she intended this to happen. I hope I can sum up the agenda as follows

1. DC workplace schemes are to get bigger and start behaving like pension schemes – becoming “full service providers”.
2. DB pensions are to consolidate , either through insurance buy-out or through superfunds. Where possible they are to run on , paying pensions and investing with the same strategies that are found in DC
3. Risk sharing, through CDC and variants will help further bridge the gap between DB and DC.

This is a positive agenda which restores “pensions” as a focus. The idea of a “wage for life” rather than the anarchic “freedom from pensions” is reasserting itself.

DB Headwinds and tailwinds

There are serious headwinds to this agenda. The first is a 20 year policy legacy which is diametrically at odds with the Mansion House reforms

DC saving has focussed on wealth accumulation and not on the payment of “wage for life” pensions.

DB pensions have been in lock-down, strangled by tyrannic discount rates dictated by low-risk investment strategies that avoided investment and focussed on borrowing gilts to meet notional financial targets.

While DB schemes have been released from servitude by the otherwise unfortunate rise in interest rates in 2022, their new found confidence is based on sandy ground. They have insufficient capital to be self sufficient and most continue to tie up what otherwise would be productive capital in increasingly expensive hedges against interest rates falling.

The Government’s proposed solution to this – the pension superfund (and its glidepath= the capital backed journey plan) has yet to make substantive progress. Only one scheme (Sears) has been consolidated and that has only bought a temporary stay of execution , prior to buy-out.

The headwinds that prevent the development of a culture where running on DB is seen as desirable, has yet to pass the first post – it is yet to be accepted as possible. In my view, much needs to change within the senior regulators (the PRA and BOE), before private capital is deployed to keep pensions running on.

But DB run-on has tailwinds too. The primary and secondary banking systems are showing signs of wanting to deploy capital behind superfunds and to deliver additional sponsorship of DB schemes who either out of desperation or super-funding, are keen to continue paying pensions. So long as the capital is waiting to be deployed, the ball is in the Government’s court. The DWP and Treasury Ministers must convert regulatory headwinds into tailwinds and fast. There is not an indefinite window of opportunity, the likely fall in interest rates in 2024 will see the high-water mark for DB funding exposed, that high-water mark is likely now. Timeliness is all.

DC tailwinds and headwinds

As for DC, the Government seems to have recognised that the VFM agenda is a long-play that will nudge poor schemes to consolidate but will not be an overnight policy success. It may be 10 years before we start thinking of our DC savings in terms of VFM.

Instead, it is now looking to force through the closure of small DC schemes through option 3 of the General Levy on occupational schemes which will impose heavy costs on small pension schemes to pay for higher regulatory scrutiny. In practice this is a penal tax on small pension schemes – especially the long-tail of up to 27,000 DC schemes about which TPR knows very little.

Forcing the small schemes to consolidate into large schemes should achieve in time a small number of DC schemes of sufficient size to play a significant role in the UK’s economic progress and to start paying pensions rather than pots to the 12m new savers who auto-enrolment has brought into the pension system.

Paying pensions from DC schemes is still considered as a “money purchase” of annuity. This is the way it should stay, as far as the insurers would like it.  However, there are those who would set up CDC schemes that do not require the complex funding rules of DB but can pay flexible pensions based not on guarantees, but market forces.

As an alternative to this view of CDC (as expected to be delivered by Royal Mail) is a version of CDC where individuals transfer DC pots into CDC schemes to get a CDC pension on the “money purchase” basis. This is known as “decumulation CDC” a title that tells you how far it is from the popular idea of a “pension”. There is considerable work to do before CDC becomes a popular option, in my view, it needs to be a consumer driven product and right now it isn’t.

There are alternatives to the formal establishment of CDC schemes and this is where I will be focussing my and AgeWage’s attention in 2024. I want to see  “potty pension plans” turn to real pensions before the end of next year.

My new year resolution is to continue to press for the new capital backed pension schemes , pioneered by Edi Truell and others , to be promoted as places to which saver’s pots can be exchanged for pensions on a “money purchase ” basis. Here the scheme provides the underlying guarantees of an occupational pension but in addition offers members a share of the profits generated by the long-term investment strategy deployed by the scheme’s fund. Edi Truell’s PSF Capital is setting up Pension Super Haven, to do just that.

2024 should be the year when the ideas explained to me by Laura Trott when she became pension minister, are realised. We have a sympathetic and sensible new pensions minister and Laura Trott is now senior in the Treasury. We have a new management at the Pensions Regulator who are also sympathetic to the idea of improving people’s expectations for pensions. I am looking forward to helping.