In its response to the Department for Work and Pensions’s consultation on the automatic enrolment charge cap, which closes today (August 20), LCP said fixed fees can “steadily erode” small pension pots, especially those left behind when people change jobs, and in extreme cases can reduce the pot to zero.
LCP said this was both “unfair and creates reputational risk for the industry” and has called for the phased abolition of flat fees while the government comes up with new policies for small pot consolidation.
Stephen Budge, principal in the DC practice at LCP, said: “Charging structures need to be simple and fair to ensure the ongoing success of auto-enrolment, but flat fees bite hardest on those who can least afford them.
“If a lower paid worker sees the value of their pension savings significant declining each year due to fees this can send a negative message about future pension saving.
“It is well known that managing millions of small deferred pension pots is a burden to the industry, but that is a reason to tackle the issue of small pots rather than carry on with an unfair charging structure on individual savers.”
The government has previously argued flat fees could be beneficial for savers with bigger pension pots, which is why it is not considering a ban at this stage.
However, it did admit the structure in its present form does not provide adequate protection for small pots.
Instead, to prevent small pots from being eroded to zero, the government is considering measures which will set a minimum pension pot size before a flat fee can be charged.
The consultation asked the industry if the current 0.75 per cent cap for DC default funds should be lowered or if transaction charges should be included under the cap.
LCP said it is “sceptical” of including transaction costs, noting in most cases these were very small and in many cases negative.
It is also concerned an across-the-board reduction of the charge cap could be to the “detriment of members” and could reduce the potential for providers to offer value-added services to members.
Mr Budge said: “Transaction costs in particular account for a tiny fraction of the costs of running a pension so capping them would make little difference to overall costs.
“Yet, the variability of these costs, which can only be calculated afterwards, could place restrictions on the ability of managers to trade which could seriously damage outcomes for members, especially in unusual market conditions of the sort we are currently experiencing.
“Many of the areas that the government is seeking to promote such as ESG investing and investing in illiquid assets tend to be associated with higher trading costs, and it is important that the DWP is joined up in its thinking on these issues.”
The Investing and Saving Alliance (Tisa) is also against a lower cap saying it will stop the creation of better investment opportunities.
Renny Biggins, head of retirement at Tisa, said: “We support the ongoing desire from government and the pension industry to widen investment into the illiquid landscape, most notably green and ESG initiatives, but DC schemes are already hampered by the charge cap in accessing these markets due to cost constraints.
“A lowering of the charge cap would cause further access issues, preventing the creation of more sophisticated default investment strategies.”
Mr Biggins said the charge cap often lead to a higher focus on costs, whereas members should be concentrating on what is the best value for money.
He added: “The existing charge cap, combined with the governance of the trustee/IGC provides an effective framework to ensure that transaction costs do not become excessive and allows providers some leeway in driving forward innovation to benefit both consumers and the industry.”
Tisa also agreed with LCP that the government must work to address the number of deferred pots, especially as Covid-19 is likely to lead to a number of redundancies.
Mr Biggins said: “We agree that the fee structure and level which apply to deferred pots needs to be addressed to ensure that that these pots, particularly when of a small value, are not completely or nearly extinguished before retirement is reached.
“It is important not to add too much complexity to any solution, as these changes need to be communicated to consumers. However, the fundamental issue here is the number and predicted increase of deferred pots.
“We need to be mindful that any change to the fee treatment of small deferred pots does not disincentivise consolidation, where a favourable fee structure removes the inclination to move a deferred pot to another pot which incurs higher fees. A balanced approach is required to achieve the desired outcomes.”
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