There were a few weeks in late summer last year when it felt we were swamped by consultations from the Government and regulators. And as sure as night follows day, we are currently seeing a flurry of publication of policy statements and consultation outcomes which will form the backbone of pension policy for the next few years.
It’s clear the DWP wants to improve automatic enrolment. This has been a massive success, with over 10 million people automatically enrolled since 2012. But it has become increasingly obvious that enrolment does not necessarily create a saver who is engaged, actively making decisions, and saving enough to give them a decent income in later life.
The DWP wants to patch the holes within automatic enrolment. In 2021, it is going to focus on three different ways to do that.
1. Solve the small pots problem
The thorn in the side of automatic enrolment is undoubtedly the small pots problem. On average, people have 11 employers during their careers and potentially build a new pension each time they change jobs. But they leave in their wake a small pension pot, which they will probably forget about or neglect.
The DWP has asked working parties to get their teeth into this challenge. Over this year, these groups will start to explore the feasibility of different approaches, aiming to develop an automatic transfer solution in the next three or four years. Instead of leaving a trail of small pots, these will be automatically transferred to the member’s active pension or another central place. The aim of the game is consolidation.
There is also concern that small pots will be slowly eroded by charges. So, in its response to its consultation on the default fund charge cap, the DWP has said it will ban fixed fees being applied to small default fund pots of £100 or less.
The industry is generally supportive of this. But it feels a complicated route to me, especially to build the administration to support it. The rule applies to both deferred and active members to ensure consistency. If I was a member starting off on my savings life, then I would have to get my head around the fact that fixed fees don’t apply to, say, my first few months of pension saving but will apply after that.
And for deferred members, if they have a pension pot of less than £100, then you have to wonder if it’s worth having at all. Wouldn’t a simpler approach be to refund the pot back to the member?
2. Low transparent charges
The DWP’s work on the default fund charge cap has shown that, overall, automatic enrolment charges are in fine fettle. The average charge across all members is 0.48%, and the DC pension market is competitive, keeping these charges low.
The DWP has decided to keep the default fund charge cap at 0.75%. This keeps back a little bit of wriggle room for schemes to deal with unscripted challenges, such as coronavirus.
However, the FCA will still probably push ahead with its agenda of giving Independent Governance Committees (IGCs) and Governance Advisory Arrangements (GAAs) sharper teeth to question charges under the banner of value for money, with the hope this will lead to even lower charges.
But it’s not just having low charges, it’s about members knowing what they are paying. For automatic enrolment schemes, the DWP is pushing ahead with new simpler, two-page statements to improve understanding, as well as exploring greater standardisation of charges. Pensions dashboards should also help people get to grips with charges, compare between schemes, and may even prompt them to take action to move to lower-charge schemes.
3. Innovative investment options
Low charges are one way of improving members’ retirement outcomes. Another way is higher investment returns.
A second reason why the DWP wanted to maintain the headroom on the charge cap was to give trustees and scheme administrators the flexibility to introduce investment innovation to achieve reasonable returns on capital and improve the quality of investment offerings. Respondents to the consultations reported far greater attention was placed on cost rather than value and/or performance, evidenced by an increase in passively-managed portfolios. By maintaining some headroom between actual charges and the cap, the industry hopes this trend can be reversed.
Building up a good-sized pension pot depends on a few things. Certainly consolidation, low charges and good investment returns are important factors. But the DWP’s work noticeably avoids the elephant in the room; it does not tackle the central point of paying in as much as you can over as long a period as you can.
These three patches will help the DWP improve automatic enrolment. But lowering the automatic enrolment age and increasing the contribution rates could arguably go a lot further in helping people build a decent later-life income.
This article was previously published by Money Marketing
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