Government’s flagship pension scheme should be halted, not delayed Personal accounts will make pension provision worse, not better
by Dr. Ros Altmann
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24 September 2009
Opportunities and benefits of personal accounts:
- Politicians can claim that millions more people are saving in a pension
- The Treasury will save costs as many people will just be saving to replace means tested benefits later
- Employers will have the chance to cut their contributions from current average over 7% down to 3%
- Financial companies will earn fees on managing the personal accounts
These large interest groups all stand to benefit in the first few years of personal accounts – no wonder there was a consensus in favour of the scheme.
Threats and risks of personal accounts:
- Workers currently in an employer pension scheme with an employer putting in more than 3%, could end up with less pension if their employer switches to personal accounts
- Workers who will be entitled to means tested state benefits on retirement may lose all their personal accounts pension later and have wasted their money – pensions are not a suitable product for everyone
- There is no plan to ensure people receive independent advice to help them assess the suitability of the personal account – generic advice cannot cope with the complexity of the current system
- Small employers will have significant extra administrative burdens
- The administration of the personal accounts scheme will be a nightmare – tracking millions of tiny pots of money over many decades from people who were automatically enrolled and forgot to opt out straight away
- A worker on £20,000 will have £50 a month deducted from their salary, with employers adding £37-50 and tax relief £12-50. Those who forget to opt out immediately cannot get this money back. It stays in the personal account for decades and has to be administered and invested.
- No serious consideration has been given to how people will get good pensions out of personal accounts – having a fund is not enough, you then have to turn that into income. Reform of annuities is essential.
The risks of personal accounts are longer-term and fall on the unsuspecting workers who are automatically enrolled when they should not be, or whose money is deducted before they have a chance to opt out and then they cannot get it back. Politicians are only worried about people putting money in, and the financial companies also see tempting large pools of assets for them to earn fees on, but what matters is that the workers get good pensions out. No proper thought has been given to how the pension income will be achieved. Worsening annuity rates mean the current forecasts of pension outcomes are far too optimistic. Most workers cannot expect to get much pension from their personal accounts.
The Government has announced that its major reform of private pension savings will be delayed until beyond the next Parliament. This gives an ideal excuse to rethink the whole scheme, before even more time and money are wasted on personal accounts that, as currently designed, will actually damage private pensions for millions of workers, not improve them.
This whole policy should be put on hold, while a proper re-assessment is conducted. A nationally organised, low cost private pension scheme does have theoretical attractions. But in the current environment, it is not suitable. It also puts the Government at risk of being held responsible in future for people wasting their savings.
Because pension contributions cannot be accessed before the pension is drawn, people’s money could potentially just be put in by mistake (if they forget to opt out) and then have to sit there and be monitored and managed for many decades, instead of them being able to use it in an emergency if needed. Then, when they retire, they may find that the means test of the state pension system takes away much or all of their pension income and their money has merely replaced benefits.
A 20-year old worker on £20,000 a year earnings, after being automatically enrolled, will have £50 a month deducted from their salary and their employer will put in £37.50 a month. Any workers who had merely forgotten to opt out in the first month and then do so, cannot get that money back. Together with £12.50 tax relief, that sum of £100 has to be invested and administered potentially for the next 50 years or so. The costs and inefficiencies of this cannot be ignored, but have not been seriously addressed.
We need radical reform of the state pension first, with an end to mass means-testing of pensioners. Even after all the reforms we have just enacted, nearly half of pensioners in future will be on means testing. This makes private pension saving unsuitable. ISAs may be a better product for many – especially those who are young, with large debts or who have not yet bought their own home.
Instead of delaying the implementation beyond the next Parliament, far better to address the problems that are already obvious in its design, before even more time and money are wasted on a policy that has the potential to make pension provision worse, rather than better in future.
Dr. Ros Altmann
NOTES TO EDITORS
The plan is to automatically enrol every worker who does not already have access to a ‘qualifying’ employer pension scheme into a national scheme of personal pension accounts. All workers will have to be put into the scheme, in which 4% of their salary is taken away to be invested in their pension, with the employer having to put in a further 3% of salary. Every time a worker joins a new employer, they will have to be put into the scheme automatically. Only then can the worker opt out, by presumably signing a form to say they don’t want to have the money taken out of their salary and put into a pension.
The personal account reforms are an appealing idea in theory, but in practice they are a disaster in the making. Phasing them in more slowly does not improve the outcome, it will prolong the agony.
Personal accounts will allow employers to cut their pension contributions, often substantially. At the moment, employers contributing to a pension scheme for their workers are putting in, on average, over 7% of salary. Under the personal accounts, employers will only have to put in 3% of ‘band earnings’ (between around £5,000 and £33,500 a year) – in other words, employers are being tempted with a nationally organised scheme that will allow them to cut their pension costs substantially – and also avoid the need to organise their own pension arrangements for their staff.
No wonder the CBI supports the policy. The Federation of Small Businesses is opposed, due to the costs and administrative burdens they will face.
This ‘levelling down’ will mean that anyone who currently has an employer pension will end up worse off as a result of personal accounts.
Pensions are not suitable products for millions of today’s workers. Personal accounts will automatically enrol millions of workers, many of whom should not be in pensions at all, due to the interaction with state pension means testing.
We need to redesign state pensions so that there is a decent basic minimum provided by the state – perhaps from a later age – and end the mass means testing of pensioners.
We also need to allow people to access some of their pension savings in emergency.