Our unfinished business

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Our unfinished business

As expected, the review will look at whether the £10,000 trigger for AE is set at the right level, whether the band of "qualifying earnings" on which contributions must be paid needs to be adjusted, and whether the current lower and upper age limits need to be changed.   

The review will also look at that tricky group of workers who are putting in plenty of hours but split between two or more jobs.  For example, someone doing two jobs at £6,000 per year would not be automatically enrolled into a pension, whereas someone getting £12,000 per year from a single job would be enrolled.   

It would be challenging to expect each of the employers paying £6,000 to set up a pension scheme, and even if they did, only a few pounds per week would be going in from each employment. But it is only right to think if anything else can be done for this group.

The 2017 review will also incorporate the previously announced review of the 0.75 per cent charge cap on the default funds of pensions used for AE. This will look at whether the cap should be lowered and at whether its scope should be widened to include "some or all" of the transactions costs associated with managing pension fund investments.

Slightly more surprising, but equally welcome, is the reference in the pension minister’s statement to the self-employed. The wording was carefully chosen not to imply that the self-employed would be brought within the scope of AE, but Richard Harrington did say: “I would also like to use the review to consider how the growing group of self-employed people can be helped to save for their retirement”.

The success of AE for employees has put into even sharper relief the emerging crisis of low levels of pension saving among the self-employed. The DWP now estimates that just one self-employed person in seven is contributing into a pension.  

And while some self-employed people have alternative sources of support in retirement such as living off the proceeds of the sale of a business, many do not. The average self-employed person earns less than the average employed earner and, without action to drive up pension coverage, will simply be unable to afford to retire.

Compulsory saving for the self-employed would solve the problem but would be politically challenging, especially for a group who are particularly independent-minded and may like being their own boss. Waiting for people to opt into pensions, even with more advertising, awareness or new incentives has failed as a strategy for decades.

In my view the only answer is a form of "pseudo AE" for the self-employed.  Around 2 million self-employed people file an annual tax return and pay Class 4 National Insurance contributions. This is a profits tax, currently charged at 9 per cent. What if this rate were raised to 12 per cent, with the extra money going to HM Treasury unless the self-employed person nominates a pension into which the money would be diverted?  

This 3 per cent contribution would be analogous to the 3 per cent mandatory employer contribution to which employed earners are entitled. If the self-employed person then topped up this 3 per cent with their own 5 per cent (gross of tax relief) this would give them roughly the same 8 per cent contribution that other workers are already getting.  

On the assumption that few self-employed people would want the chancellor to keep their 3 per cent, this rather heavy ‘nudge’ would get the vast majority of them started on the road to pension saving.

Alongside the statement on the terms of the review, the DWP also published the latest analysis of the progress of AE, and this contains some hugely encouraging signs.

Looking at the ‘eligible population’ for AE (workers earning over £10,000 per year, between age 22 and state pension age), it finds that the policy has increased pension scheme membership rates by 37 percentage points in the private sector. This is a huge change in just a few years.

Among the under 30s, the membership rate has soared by 52 percentage points (albeit from an extremely low base), and for those in the lowest quarter of the earnings distribution, the rate has gone up by an amazing 54 percentage points.  Any policy that can get large numbers of lower earners and younger people saving into a pension with an employer contribution has to be regarded as a success.

But there is a catch. And this is the key omission from the terms of the 2017 review. The review will not look at what happens after the 8 per cent mandatory contribution rate has been reached in 2019.  For the vast majority of workers, even those who start saving at 22 and who draw a full state pension, a contribution rate of 8 per cent is simply not enough to give them the sort of retirement that they want, and therefore they will simply have to keep on working.  

Estimates in the Royal London policy paper, entitled The Death of Retirement, suggested that people could be working into their late 70s or beyond to match the sort of retirements enjoyed by previous generations unless something is done about this 8 per cent figure.

Disappointingly, although the government’s announcement said the review would "strengthen the evidence around appropriate future contributions into workplace pensions” it went on to say: “We do not expect to make policy decisions on these areas during 2017”.

I believe that this is a huge mistake. We know that it will have taken 17 years to get from the start of the work of the Pensions Commission (which laid the groundwork for AE) in 2002 to the full rollout of the programme in 2019.  

We simply cannot afford to lose another decade or more debating what to do next.

Raising mandatory contributions risks triggering large-scale opt-outs, which would be self-defeating.  But harnessing the power of inertia, getting people to gradually increase their contribution rate with each pay rise unless they actively opt out, would be a more gentle way of getting contributions up to more realistic levels.  Detailed thinking in that area cannot come too soon.

All in all, it is a case of ‘two cheers’ for the 2017 review. It will address many important issues and I am sure will be done thoroughly and in good faith.  But unless it tackles the inadequacy of current rates of pension contributions, it will fail to deal with the key item of unfinished business of automatic enrolment.

Sir Steve Webb is a former pensions minister and is currently director of policy at Royal London

 

Key Points

The review into auto-enrolment announced at the end of December will look at whether the £10,000 trigger for AE is set at the right level.

It is estimated that just one self-employed person in seven is contributing into a pension.

Raising mandatory contributions risks triggering large-scale opt-outs, which would be self-defeating.