In the last couple of posts I explained how the Labour government responded to the decline in the number of active members of private section pensions at the start of the millennium by forming The Pension Commission in 2002.
Simplified state pensions and increasing state pension age to match longevity improvements as well as auto-enrolment were the principal policy suggestions. The 2007 Pensions Act, restored the earnings link to state pension and raised the pension age.
The second 2008 Pensions Act addressed the lack of private sector pension provision by creating the obligation on employers to enrol all employees as well as the creation of a new low cost savings vehicle for these defined contribution pensions.
This low cost savings vehicle became Nest Corporation, established to ensure all employers, regardless of size, could access high-quality pension provision and would not be turned away because they were too small to be a profitable business partner.
It took until 2012, however, for auto-enrolment to get underway with schemes with more than 250 people starting the process. These employers were given from October 2012 until February 2014 to auto-enrol their employees.
First ‘stage’ then ‘phase’
This marked the beginning of the first phase of the ‘staging’ process, which gradually introduced employers to the auto-enrolment process. There were teething problems at the start with payroll systems.
The government decided to start with the largest employers which forced payroll providers to address the issues and make the system work. From October 2012 ever smaller firms were staged with company schemes with less than 30 members completing auto-enrolment in April 2017.
With staging complete, the government could switch its attention to ‘phasing’ the contribution levels. To keep opt-out levels low, initial minimum contribution levels were set at 2% of staff pay, with a minimum employer level set at 1%.
This was ratcheted up to 5% of pay, 2% employer payment from April 2018 and then increased to 8% and 3% respectively after the April 2019. These targets were not arbitrary but had been set by The Pension Commission as a way to get a minimum income replacement target.
Reversing the decline
This policy of gradually ratcheting up contribution levels paid off with opt-levels staying low throughout the staging and phasing process. According to the Office for National Statistics, by 2018 the number of active members of private sector defined contribution occupational schemes was 9.9 million.
Sixteen years after its formation, The Pension Commission had achieved its aim of reversing the decline in the number of active members of private occupational pensions which reached a low of 2.7 million in 2011.
While auto-enrolment has gone a long way to address many of the problems bedeviling private sector pensions at the start of the millennium, things are far from perfect. The introduction of freedom and choice – pensioners no longer having to use their pot to purchase annuity – has created a new raft of challenges.
And there are concerns current contribution levels are too low to build up a replacement income at retirement. Certain population groups – such as the self-employed and those working part-time jobs – are not captured by this legislation.
Now we have established why the UK’s private sector has mostly abandoned defined benefit pensions in favour for an auto-enrolled defined contribution system, later posts will take a deeper dive into these issues. The next couple of posts will explain public sector pensions.