By Dale Critchley, Workplace Policy Manager, Aviva
We have 22.3 million people saving for their retirement, largely as a result of harnessing the power of inertia, setting employees on a straight-line course to retirement.
Unless there are “forces” that act on behalf of the saver, inertia means that savers pay a minimum amount into a default fund for the whole of their working life. It means that savers of all ages, genders and socio-economic groups have a chance to save into private pension pot, although for many it may not be as much as they need to enjoy the type of retirement they might aspire to.
There are two ways to change the outcome for savers. The first is to alter the direction for everyone. A provider can change the default contribution rates and the returns on default arrangements, this changes the outcome for those who remain on the default track to retirement. This has proven challenging to date. As automatic enrolment has gathered momentum it has become more difficult to alter its course.
International comparisons
The market for default funds has developed based on price, with an allowance for investment costs around five times less than in Australia, where automatic enrolment was implemented in 1992. The new Value for Money Framework will be key in promoting a focus on returns net of charges, while the Mansion House Compact and Accord evidence the readiness of signatories to invest in wider assets, in the interest of members and where they have the opportunity to do so.
Changes to default contribution levels, which will reach 12% in Australia this year, were pencilled in for the UK in the mid 2020’s. They would see contributions from the first pound earned and for employees aged 18 or more, but affordability is a concern for both employees and employers. The upcoming Pension Adequacy Review will provide an opportunity to consider when and how changes to default contribution levels will be implemented. We would hope to see a clear plan, to deliver certainty for employers and employees.
Longer term, we need to accept that we can’t emulate some of Australia’s successes, if we collectively contribute just two thirds of the contributions. The Pension Adequacy Review will also provide an opportunity to look beyond the next few years and set a longer-term roadmap.
Nudges
The second way to alter the outcome, is to apply nudges to change the direction of individuals or schemes. There are many employers who recognise the risks associated with a workforce who cannot afford to give up paid work. They encourage their employees to pay more into their pension scheme and they have governance committees in place, or operate their own occupational pension scheme, to focus on the value delivered by their scheme.
Similarly, there are employees who choose to make their own decisions. The FCA’s targeted support proposals provide an opportunity to help this cohort of savers make good decisions, driving better outcomes, tailored to their individual needs.
Retirement decisions
Inertia’s straight-line approach currently crashes headlong into retirement, because there is no clear straight line through retirement. Wants and needs prompt people to make a choice, but of course inertia and human behaviour tend to find a way to continue the straight line of minimal decision making. The FCA’s Retirement Income Data shows that 50% of pots were taken as cash in 2023/24, while Aviva and Age UK’s report “Managing Money in Mid-Retirement” revealed that many retirees hadn’t considered shopping around for their drawdown or annuity provider. The straight line of inertia currently leads toward encashment and in-scheme solutions.
The DWP will aim to change this by requiring a default income solution that is subject to value for money requirements. 'Flex first and fix later’ solutions, may continue the straight line of inertia into retirement, but we mustn’t give up on individual engagement. Individual retirement income needs are incredibly diverse, driven by past employment patterns, health, wealth, family circumstances, housing tenure and more.
A default may be better than the current inertia driven solutions, but our goal must be for people to make an informed and active choice based on their own needs. That means continuing to focus on individual nudges through the provision of information, by implementing targeted support and encouraging people to seek advice where it is appropriate. Only then can we maximise the value people get from a lifetime of saving.
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