When Lord Turner’s Pension Commission proposed auto enrolment back in 2005 it could not have been the intention that the low paid would see only around 1% of earnings going into their pots for the first five years.
Yet the government’s decision to delay the auto enrolment timetable for a second time means that is precisely what many workers will get.
This second delay in auto enrolment increases – following the 2011 delay to both staging dates and phasing – creates a real risk of a disconnect between an employees’ perception of what their pension will be worth when they come to retire and the reality.
This latest six month delay in the increase in minimum contributions means a loss of £770 for someone earning £26,200 enrolled in 2012, assuming 5% investment growth and 4% earnings growth. This rises to £1,292 for somebody earning £40,000 and £1,382 for somebody earning £60,000.
Contributions were scheduled to rise from 2% of qualifying earnings to 5% from October 2017 and to 8% from October 2018. But changes announced in the Autumn Statement mean the rise to 5% will now take effect from April 2018 and to 8% from April 2019.
This latest delay means employees will have to wait a full 18 months longer before their auto enrolment contributions reach the 8% of band earnings that is needed for an adequate enough income in retirement. Those auto enrolled in 2012 will have waited six and a half years before their contributions hit 8%.
It is not just the delay that means the reality is less than the expectation – the effect is compounded by the corrosive effect of the band earnings rule. Not only are contributions 2%, not 5%, for longer, but it is not even 2% of all earnings.
A worker on £15,000 a year only receives contributions in relation to less than two-thirds of his or her earnings. So 2% of band earnings means 1.2% of all earnings for someone on £15,000, working out at an annual combined employer and employee contribution of just £183.52.
Contribution rates are so low there is a serious risk that the credibility of the entire policy will be called into question. The delays in contribution rate increases mean there will be full-time employees auto enrolled in 2012 aged 60 who will be retiring five years later with pension pots of less than £1,000, having never seen 8% go into their pot. If they can find an annuity provider to take them on, that means an income of less than £1 a week.
The DWP argue that by aligning the contribution increases to the tax year when salary increases are often awarded that it will help to prevent opt outs and while there is some logic to this argument, the government estimates it will save £390m in tax relief costs in 2017/18 and £450m in 2018/19 as a result of the postponement.
To safeguard the success of this key policy, the government needs to not only commit to no more delays, but to also kickstart the debate around removing the band earnings definition and setting a timetable for increasing beyond 8%.