In his recent Autumn Statement, the Chancellor announced plans to enable savers to force their employers to pay into a pension of their choice.
Rather than being enrolled into a new scheme every time you switch jobs, you could instead choose to have a pension ‘pot for life’ that moves around with you.
This was generally well received, albeit with some concerns as to how it might work in practice. In this week’s blog, I consider the pros and cons of the new proposals.
One pot to rule them all…
The good
According to research from the Pensions Policy Institute, as of last year, there were around 2.8 million lost pensions in the UK, worth approx. £26bn.
This is undoubtedly the main attraction of a ‘pot for life’ – it should significantly reduce the proliferation of small pensions spread across numerous providers. In turn, this will reduce the likelihood of ‘losing’ a pension.
It should also lead to better outcomes. Smaller pension pots often don’t receive the attention they deserve, potentially languishing in poorly-performing funds or expensive products.
In contrast, a single (larger) pension would inevitably be easier to keep track of and ‘focus the mind’, would should lead to better decisions around underlying investments and retirement planning in general.
And in the darkness bind them…
The bad
But the proposed ‘pot for life’ isn’t without its disadvantages:
1. Tricky to implement
First and foremost, it would be difficult to implement.
At present, employers engage with one pension provider and typically pay all employer contributions into a single scheme.
Under the proposed ‘pot for life’ model, employers would be required to make payments to a complex array of different providers. For larger organisations with dedicated HR departments and sophisticated accounting software, this should be quite straightforward, but less so for small and medium-sized enterprises.
2. Dis-intermediation of employers
Over recent years, there has been a push towards the education of employees regarding their pensions – how tax relief works; the importance of starting early; options for drawing benefits, etc. These are commonly paid for by employers and arranged via the workplace pension provider they use.
However, one of the potentially harmful side-effects of a ‘pot for life’ model is that this could dis-intermediate employers from their role in supporting the financial well-being of employees, which would be bad – as a result, workers may find themselves less engaged and less aware of the importance and benefits of pension contribution.
The ugly
But I think the biggest risk is around DIY (‘do-it-yourself’) investing and the potential for bad decision-making.
Consider an example where someone opens a new self-invested personal pension (SIPP) and directs any future employer to pay into this scheme under the proposed ‘pot for life’ rules.
The SIPP differs to most workplace pensions in that it offers complete flexibility as to what you can invest in – not just funds, but the stocks and bonds of individual companies too.
For many, the added flexibility of SIPPs is a good thing, particularly more sophisticated investors or those who can afford to (and are willing to) take financial advice.
However, for others, it presents a risk of bad investment decision-making, for example, holding a concentrated portfolio of just a few single stocks, in the hope of identifying the ‘next big thing’, or coaxed by some shiny marketing campaign.
Whilst workplace pensions can be inflexible, the limited investment choice (normally restricted to a few well-diversified funds or ready-made portfolios) acts as a stabiliser and should generate a return that largely tracks the broader market, maybe plus or minus a few per cent.
In contrast, I worry that the new model could see more people looking to manage their investments, self-select individual stocks, and risk losing a big chunk of their pension savings through some highly concentrated and misinformed bets.
Summary
When I first read about the ‘pot for life’, I thought it was a great idea – fewer lost pensions, more investment flexibility, better retirement decisions, etc. And I think that’s true for more sophisticated DIY investors or those willing and able to take advice.
However, on reflection, I’m concerned that companies will be less incentivised to offer educational courses to their employees, which means many will become less aware of the importance and benefits of pension saving in general.
Furthermore, people might be drawn to ‘self-managing’ most or all of their pension in a pot that now offers full investment flexibility (e.g. the ability to invest in single stocks). In turn, this could lead to highly speculative bets on small firms, in search of the ‘next big thing’, which could have disastrous consequences.
I hope not of course, and believe there is a sensible middle ground, potentially with restrictive investment options, but we wait and see.
Disclaimer: A pension is a long-term investment and funds are not normally accessible until 55 (rising to 57 from April 2028). When investing via a pension, your capital is at risk. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits.
This blog is for general information only and does not constitute advice. The information is aimed at retail clients only. Since I don’t know your specific situation, none of this information should be construed as tax or financial advice. It is not an offer to purchase or sell any particular asset and it does not contain all the information which an investor may require to make an investment decision. Although endeavours have been made to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. We cannot accept responsibility for any loss as a result of acts or omissions taken in respect of any articles.
P.S. Happy New Year to all. Best wishes for a healthy and prosperous 2024!
