Personal Pension  

How well the charge cap fits is crucial

This article is part of
Auto-Enrolment - December 2013

The complexity and opaque charging models that have been built into the DNA of the pensions industry over the years has significantly contributed to the lack of confidence among consumers in pension saving.

According to the Office for National Statistics, just 46 per cent of employees are now a member of a workplace pension scheme, the lowest level since records began in 1997.

Auto-enrolment presents the industry with a huge opportunity to reverse the decline in pension saving. But in order for the policy to be a success, two fundamental issues need to be addressed: cost and quality.

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At the most basic level, pensions should provide a lifetime income in retirement that is fair value relative to the contributions paid. High charges eat away at pension pots, foster mistrust in the industry and act as a disincentive to savers.

The impact of the charges levied on people’s pension savings over their lifetime can be significant. Data from the department for work and pensions shows that over a 46-year period of saving, an individual paying an annual management charge of 0.5 per cent would lose 13 per cent of their pension pot to charges, while someone paying a 1 per cent annual management charge would lose 24 per cent – a significant differential.

Research recently revealed that 56 per cent of pension savers do not know the charges levied on their pension pots, while 22 per cent know some but not all. With engagement in pensions persistently low, it is right that the government takes a proactive approach to protect savers and help ensure that pots are not needlessly eroded. But the reality is that a cap on charges will not necessarily ensure a better deal for pension savers.

Historically, the industry has proved very adept at side-stepping charges, raising costs in other areas to compensate. With the launch of this consultation, naysayers have been quick to warn of a potential ‘levelling up’ of charges to the cap, while others have cautioned that it will stifle product innovation as the margin is too tight.

I am not convinced that either of these risks is too real, as most auto-enrolment providers’ charges are already below the 0.75 per cent cap, with the higher charges to be found in older style schemes that are not included in this consultation.

However, I am concerned that one of the unintended consequences of a cap is that it might reduce the number of players operating in the auto-enrolment market. We have already seen some players pulling out of the workplace pensions market as they simply do not view it as profitable, while others have been selective, cherry picking only the best business, not wanting to concern themselves with serving the mass market.

As auto-enrolment gathers pace with high volumes of small to medium-sized businesses and micro employers staging, the need for strong competition in the marketplace is imperative in order to deal with the huge demand. But this low-margin business, which many players already deem unattractive, will now look even more unappealing.