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Pension Cap Will Cost Savers

uk money

The DWP consultation on pension charging ended on Thursday 28 November 2013, the Government has proposed a pensions cap at 0.75%.

Legal & General believes the proposed cap will be ineffective in driving down costs, and not tackle the big problem of legacy pension schemes where savers could be getting a poor deal.

John Pollock, Legal & General Assurance Society CEO said:

“A Pension Charge Cap at 0.75% is a poor idea by the government.

“Not only will it potentially cost legacy scheme pension savers £4.3bn in lost savings, it will also be ineffective in
driving down pension charges for millions of savers.

“The Office of Fair Trading state typical new auto enrollment schemes actually charge 0.51%.

“Having a cap at a much higher figure will have no impact on new pension schemes, and will result in legacy savers being treated unfairly compared to new savers.

“Legal & General is in favour of having a meaningful cap at 0.50%, not only for new auto enrolment schemes, but for legacy pension schemes as well.

“It is here in the legacy world that savers maybe getting a poor deal, with fees at much higher levels.

“Competition is driving down the cost for new auto enrolment schemes, but is having no real impact on legacy schemes because employers have historically rarely switched suppliers.”

The Legal & General figures reveal the impact of the 0.75% Pension Charge Cap proposed by the Government on the 3.8 million people being auto enrolled from April 2014 – when the charge cap is set to be applied.

In April around 1.5 million employees working for employers who do not have a company pension scheme will be auto enrolled into a brand new AE qualifying scheme, charging 0.50% or less, where the default investment is a low cost fund (OFT figures for typical new AE scheme charges are 0.51%).

However, 2.3 million are working for an employer who already has a company pension scheme in place, for which average charges are 0.79% (OFT estimates). We estimate around three quarters* of these employees – 1.7 million, of whom the majority are not already paying into a company pension, will be automatically enrolled into their existing (legacy) company scheme.

These employees will pay the higher charges until they retire – on average around 22 years.

The DWP estimates that a 0.25% higher charge will cost these employees (1.7million) around £2,500 each, which would amount to £4.3 billion over payment during a lifetime of saving in a legacy pension scheme.

* 2.3 million employees reduces to 1.7 million allowing for those who will not be eligible to be auto enrolled or might ‘opt out’.

How these figures are calculated:

– The Government consultation is for a minimum 0.75% charge cap to commence April 2014.
– In the tax year 2014/15, 41,000 employers containing 3.8 million people will reach their automatic enrolment staging date (source: The Pensions Regulator).
– Of these, 16,000 employers containing 1.5 million employees have no existing pension scheme (source Making Automatic Enrolment Work Review).
– They will arrange a new scheme in the pensions market, where the going rate is a charge of 0.50% a year of funds under management for those choosing low cost default fund (NEST, People’s Pension, NOW and Legal & General are at this level for new schemes along with most other ABI members).
– However, the other 25,000 employers who have 2.3 million employees already have a pension scheme (source Making Automatic Enrolment Work Review).
– These will also offer a low cost fund as a default investment option and typically be charging between 0.75% and 1.0%, as that was the prevailing rate of charge at the time. OFT cite the average charge for a scheme set up by an ABI member in 2001 was 0.79% (source OFT market study of workplace pensions).
– The issue is that unless the charge cap is set at 0.5%, the existing schemes will continue at higher charges of 0.75% (or higher) even though a low cost default fund may be available as the default investment.
– We would have the uncomfortable position in which 1.7 million members of old schemes will be paying rather more for their pension than 1.5 members of newer schemes although both may be invested in a low cost default fund.
– DWP calculate that, starting with initial contributions of £1,200 per year, the effect over a lifetime of charging 0.75% rather than 0.5% is to pay £2,500 more in costs

DWP stated in its consultation paper:

“The impact of the charges levied on people’s pensions savings over their lifetime can be significant – seemingly small variations in charges can result in a considerable difference in people’s final retirement savings”.

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