How auto-enrolment will impact Sipps

The Pensions Regulator (TPR) has stated that many self-invested personal pensions (Sipps) will not be suitable for auto-enrolment as they were never designed for the mass market. However, such a large-scale change to pensions will surely impact the market in one way or another.

Why auto-enrol?

The initiative involves requiring employers to automatically enrol eligible employees into a qualifying workplace pension scheme. Although employees have the right to opt out of the scheme, the expectation is that a high proportion will remain in the scheme if for no other reason than inertia.

Although a proportion of the population already participates in workplace pension schemes arranged by their employer, or have taken out a personal pension or Sipp of their own accord, it was felt more needed to be done to encourage greater retirement saving. That tendency to inertia again may have had a part to play in the lack of pension saving. Many may have realised that they ought to start saving for retirement but never quite got round to doing so, or perhaps have not been sure how to go about it. To have the decision made for them could be just what they were waiting for.

As a further plus point, there is a requirement under auto-enrolment rules for employers to make a minimum contribution to the auto-enrolment pension scheme. Logically, then, it would make sense for employees to remain in the scheme to take advantage of the contribution from their employer.

More than minimum

Although it is possible for an employer to pay the total minimum contribution required by the auto-enrolment rules, the likelihood is that employers – especially employers who do not already provide a pension scheme and are effectively now being forced to do so – will just make a contribution of the minimum amount required of them. In that case, employees will also be required to pay a contribution to ensure the overall minimum contribution is met. Details of the contribution levels are outlined below.

Where employees are required to make a contribution under auto-enrolment, it stands to reason that affordability could be a big factor in influencing the decision to opt out. Here it is necessary to explore the meaning of affordability. There will be a proportion of employees who genuinely have no money to spare over and above basic costs of essentials for daily living and will opt out to avoid a lower take-home pay.

For others who do have an element of discretionary spending, it may mean they would have to sacrifice some lifestyle choices to afford the contribution. But even where discretionary lifestyle spending is being sacrificed for saving it may be considered more critical to make short-term savings, for example, for a mortgage deposit, or into savings arrangements that offer greater accessibility than pensions. Such considerations could lead to decisions to opt out.

Impact on Sipps

Although the auto-enrolment initiative started in October 2012 it is being phased in over the period up to February 2018, starting with larger employers. With it being in its infancy there is still a lot of speculation over whether it will be successful. While opt-out rates are so far encouragingly low, that may not remain the case as it is rolled out to smaller employers.

Ultimately though, one way or another, auto-enrolment will have an impact on the current pensions landscape and speculation can be made about what effect it will have on the Sipp market.

It could be said that those who take the opt-out route – whether because of lack of affordability on grounds of essential spending, unwillingness to sacrifice discretionary spending or because they believe short-term saving outweighs pension savings – do not represent a real loss or threat to the Sipp market as they were not participating in this sector anyway. If they cannot be attracted to stay in a relatively easy and straightforward auto-enrolment option with the benefit of employer contributions, then the Sipp route is not going to be a likely panacea.

As far as group Sipps go, there is an opportunity for them to benefit if they are operated as a qualifying workplace pension scheme. At the end of last year, statements made by TPR indicated that group Sipps would not be suitable for auto-enrolment, but this was later qualified such that group Sipps can be suitable for auto-enrolment where they are built around a value-for-money default fund, compliant with the Department for Work and Pensions (DWP) guidance and do not require active engagement and decision making.

Despite such qualified statements, there is still room for interpretation. It is therefore interesting to note that the DWP issued a paper in July, ‘Quality standards in workplace defined-contribution pension schemes’, looking at introducing minimum standards that may help lead to further clarifications. Ultimately it can be anticipated that group Sipp providers who are operating in the mass market workplace pension space will adapt and change their product and services to suit.

Dumbing down

A potential threat is where either group or individual Sipps are currently being used as a workplace pension scheme but will not be suitable as a qualifying workplace pension scheme for auto-enrolment purposes or where the employer does not wish to make such a scheme available to all employees. The risk here is that the employer may opt to ‘dumb down’ its pension offering by choosing a simple low-cost auto-enrolment scheme for all staff.

Another potential threat is where an individual whose employer has not to date offered a pension scheme has taken on the responsibility for saving for retirement via an individual Sipp. On being entered into the employer’s auto-enrolment scheme, the individual could be faced with being unable to afford contributions to both schemes. It is perhaps unlikely that the employer will agree to pay an equivalent contribution to the employee’s own Sipp if they opt out of the auto-enrolment scheme. Therefore the likelihood is for the individual to remain in the auto-enrolment scheme to gain the advantage of employer contributions and cease contributions to their own Sipp.

However, it could be assumed that the individual had chosen the Sipp for the wide range of investment opportunities it offers, which may not be present in the auto-enrolment scheme. Therefore in time we could see an influx of transfer values from auto-enrolment schemes into Sipps to access the wider investments on offer.

Consolidation

On the subject of transfers, there is also the initiative whereby the pot automatically follows the member. This aims to put in place a mechanism where those changing jobs do not end up leaving small pension pots with each preceding employer’s pension scheme. The initiative is still being considered but, whatever happens, the focus appears to be on ensuring individuals consider the options for transferring their pension pot. With Sipps already proven to be a good consolidation vehicle, in the longer term Sipps could benefit well from the accumulation of pension funds via auto-enrolment.

Further down the line, when auto-enrolled individuals switch from the accumulation to the decumulation phase, we may again see a move towards Sipps that have a high degree of flexibility, control and options in how to draw retirement income.

Overall, although there may be some concern that auto-enrolment may reduce contribution levels to Sipps, in the longer term the accumulation of pension funds via auto-enrolment could boost transfers into Sipps as a consolidation vehicle, both for greater investment choice and to manage the decumulation phase. Time will tell.

Robert Graves is head of pensions technical services at Rowanmoor Group