Articles - The lifetime pension model

In the Chancellor’s Autumn Statement Jeremy Hunt launched a call for evidence for a ‘pot for life’, also known as the lifetime pension model. As part of the Government’s wider Mansion House reforms, the pot for life will give savers "a legal right to require a new employer to pay pension contributions into their existing pension pot if they choose, meaning people can move to having one pension pot for life. The proposal has created a polarisation of views in the industry and a myriad of questions that must be answered by the consultation as a matter of urgency.

 Paul Leandro, Partner at Barnett Waddingham

 What’s the benefit?
 These ideas aren’t new. The Chancellor is leaning heavily on the successes of the Australian system, which I’ve seen firsthand reap positive results for members – most of the time.

 In Australia, the member chooses their pension pot – both the type of fund, and who runs it. Savers have a real sense of ownership of their pension, talking about ‘their super’ with a sense of proprietary pride. Contributions are much higher – most of this is driven by the 11% compulsory payment from employers (increasing to 12% by 2025), but there’s also a relatively high rate of voluntary employee contributions. The average total contribution is around 15% - the UK has stagnated at around 8%.

 By mimicking Australia, we are able to learn from their mistakes rather than make our own.

 A lack of ‘stapling’ – that is, defaulting people to their existing pot unless they make an active choice otherwise – was only introduced in the last few years, which is a step Mr Hunt’s proposal seems to presume. This means each individual will have a larger fund in one place, which helps providers build scale and reduce fees – this would also benefit the Mansion House initiative if said funds can invest in illiquid or less liquid assets.

 What are the risks?
 The Australian system isn’t perfect. There are a couple of clear risks inherent to adopting a similar system.

 The first is the number of savers who choose to invest in self-managed superfunds; that is, choose their own investments, including alternative assets. This is a whopping circa 30% of pensions in Australia and risks a huge number of people making poor investment decisions and losing their hard-earned cash.

 "While we can learn from Australia's model, the Government must remember that we’re working from a different starting point, with an established system and high levels of saver apathy; inertia is the default behaviour."

 The second is more systemic. Because of member choice, superfunds operate in the retail space, rather than the institutional one. They are competitive, and they invest millions of dollars in promotion and marketing – they even sponsor sports teams. Whilst this spend is regulated, it can bring with it an opportunity cost, with less money to spend on member outcomes, and also necessitates a focus on immediate investment performance and short-term accumulation.

 Finally, let’s not forget we are not Australia. While we can learn from their model, the Government must remember that we’re working from a different starting point, with an established employer-led pension system and extremely high levels of saver apathy; inertia is the default behaviour. Whilst arguably a falling trend, employers here are more paternalistic, and play an active critical role in scheme governance, which we would risk losing altogether under a new system.

 Could we replicate their pensions model?
 The benefits and risks are important considerations, but we must also examine the pragmatic reality; would it even be possible to introduce such a system in the UK?

 The answer is yes… carefully.

 The introduction of the lifetime pension model would catalyse a revolution in the UK pensions system. The auto-enrolment system is already so complicated that it risks mistakes being made at the point of payment – this would increase tenfold in a system where employees are making their own pension scheme choice, without streamlined administration. The rules would need to be simplified, and the system made airtight.

 We would need a whole new pensions infrastructure. Employers can’t be paying out into hundreds or thousands of individual accounts – a lifetime pension model would need a robust and centralised clearing house, on a scale of magnitude larger than anything that exists in the UK right now.

 Some big decisions would also need to be made at a regulatory level about the level of ‘freedom’ in this ‘freedom of choice’. Are savers able to invest in anything they like, or only in certain types of assets, types of funds, and via specific providers? Who governs the funds in the absence of employer governance to ensure value for money? The individual? The regulator? Is the government only considering master trusts in this framework, with qualified trustees?

 What would The Pensions Regulator (TPR) need to look like if it had to govern even more pension funds in the UK? Is the treasury assuming we’ll only have a handful of qualifying schemes that members can choose from? And what does the Government do if the UK’s growth assets don’t meet value for money requirements? Some of these questions could be answered in the consultation, but solving the issues involved is no mean feat.

 Should we replicate it?
 Personally, I do see merits in the ‘pot for life’ system. Anything which empowers members and tries to take a new approach to solving the looming pensions crisis in the UK should be seriously considered, and there are certainly impressive attributes to the Australian system which we’d be fools to ignore. However, it will only work if we have a robust administration system and individuals are ensured of choosing only good quality pension arrangements - this is a huge ask!

 So, while the solution has strengths, now is not the time. We have much bigger and more immediate problems to solve in the UK at the moment – stagnated contributions levels, stark pensions gaps across gender, ethnicity, and parenthood, and an urgent ‘at retirement’ problem.

 "We are watching the issues bubble up, and can predict when they will spill over the pot, but there is time to turn down the heat; to improve the system and help people build defined contribution (DC) pots which work for them at retirement."

 For the lifetime pension model to be done properly – and it must be done properly, or it should not be done at all – the level of investment, infrastructure, and overhaul required is enormous. It would eat up the pension industry’s resource for at least the next few years, and act as a distraction from the more critical problems facing members and their schemes. This Government seems to be throwing a long-term solution at a crisis unfolding in the short term. With a general election looming, there is a suspicion that this is an attempt at headline grabbing, rather than engineering a truly thought-through people-first initiative.

 Contrary to the views of the doomsayers, the UK’s pension crisis is not inevitable. It’s something we can avoid, or at least mitigate. We are watching the issues bubble up, and can predict when they will spill over the pot, but there is time to turn down the heat; to improve the system and help people build defined contribution (DC) pots which work for them at retirement. We must not get distracted, and ‘pots for life’ seems like the ultimate distraction. We must put our time, expertise, and resource into fixing the issues at hand, and fixing them now before disaster strikes!  

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