Currently in the UK, the mandatory requirements in respect of pension provision for employees are very limited. They require employers of 5 or more UK employees to "offer access" to a stakeholder pension plan. A stakeholder plan is a type of low-cost defined contribution arrangement where the contract is between the employee and the pension provider, typically an insurance company. The employer has to notify employees of the name of the plan and provide details about it, and to offer a payroll deduction facility if employees want to contribute to the plan. The employer itself is not required to contribute anything to the plan, although it may choose to do so. Likewise the employee may choose not to join the plan.
Significant changes to this regime are due to be phased in from October 1, 2012. Under the new regime, employers will need to arrange for the automatic enrolment of their employees in a qualifying pension scheme, and make contributions to each employee’s pension "pot." These new requirements will apply to all employers, regardless of the number of people they employ. This Client Alert explains the changes brought in by the new regime, details when they become effective, and examines what steps employers should be taking.
What is the Framework of the New Regime?
The new regime requires every UK employer to arrange for automatic enrolment of ‘qualifying jobholders’ into either the National Employment Savings Trust (Nest) or another ‘qualifying scheme.’ Both employer and employee will need to contribute to the selected arrangement. The Government’s policy objective is to increase the amount of money employees save for their retirement.
What is Nest?
Nest is basically a defined contribution plan established by the UK government and run by a trustee corporation. It is a very basic, low risk plan chiefly targeted at those workers on lower salaries without alternative pension provisions. Employer who do not have their own "qualifying scheme" will be able to auto-enrol their employees into Nest instead.
What is a "Qualifying Scheme"?
‘Qualifying schemes’ can be utilized by employers as an alternative to Nest for the auto-enrolment of employees. These can be either occupational pension plans (which may be defined benefit or defined contribution) or other workplace pension plans, such as a group personal pension plan or a stakeholder plan. The new regime requires that for a plan to be a "qualifying scheme," it must not require the employee to make a choice or provide any information in order to become enrolled. Further, such plans must meet the ‘quality requirement,’ essentially to ensure the scheme is at least as favourable to the employee as Nest. Stakeholder plans to which the employer does not contribute will not qualify. Existing pension plans can be used, but may need to be amended in order to comply with the new regime, with necessary alterations likely to include increasing the rates of contribution (for employer and/or employee), removal of waiting periods before being eligible to join the plan of over three months and removal of any prohibition on rejoining the plan after leaving it.
Who Must be Enrolled into a Qualifying Scheme?
Employers will have an obligation to offer a qualifying scheme to all ‘jobholders.’ Jobholders are those workers under contract in Great Britain aged at least 16 but under 75 with ‘qualifying earnings’ (a minimum of £5,715 per annum initially). The wide scope of the legislation means temporary workers, such as agency workers, are also likely to be included.
Any jobholder wishing to join the scheme has the right to do so, and employers must provide appropriate information explaining how they do this.
In addition, employers must automatically enroll any jobholder not already in a qualifying pension scheme who is aged between 22 and the state pension age (currently 65 but rising to 66 in 2018) who has annual earnings, including bonuses, exceeding the income tax personal allowance (i.e., from April 2011 more than £7,475 per annum). This is likely to be the vast majority of employees for most employers.
Employers must provide information on the qualifying pension scheme within one month of the employee’s becoming eligible to join it. Employees must be enrolled in the scheme within three months of being eligible to join, and, in the case of new jobholders, within three months of being hired, although note that they may request to be included sooner than this.
Can Employees Opt Out of the Regime?
Employees who are automatically enrolled in the scheme have one month from the date of enrolment in which to opt out. These opt-outs must be in a prescribed format, and employers are prohibited from either providing the opt-out forms or offering any inducements for employees to leave the scheme.
Employees subject to automatic enrolment will be re-enrolled under the regime normally every three years from the date the employer’s duty commences. The only exceptions to this are where an employee has opted out within the preceding 12 months or where the employee was an active member of a qualifying scheme on the automatic re-enrollment date. This means that employees who opted out three years prior and who wish to remain outside the scheme must take steps exclude themselves once more.
How Much Will Employers Have to Pay Into the Scheme?
Employers must pay into Nest or the qualifying scheme contributions from both the employer, and the employee (as a deduction from salary). Contributions must however only be made in respect of the employee’s ‘qualifying earnings’ i.e., earnings between £5,715 and £33,540, in 2010/11 terms — these limits are set to rise with the level of earnings over the years. Combined employer/employee contributions to Nest (but not another qualifying scheme) have an annual cap of £3,600 per employee, although this cap will be removed from 2017.
Qualifying schemes must meet the new regime’s ‘quality requirements.’ For defined contribution plans, this means employers must contribute at least 1 percent of qualifying earnings from the date the regime applies until October 30, 2016, with employer plus jobholder contributions totalling at least 2 percent of qualifying earnings. Employer contribution requirements rise to at least 2 percent (totalling at least 5 percent when combined with jobholder contributions) from October 1, 2016, and at least 3 percent (totalling at least 8 percent) from October 1, 2017. Defined benefit plans must be "contracted-out" of the UK State pension regime, or satisfy a statutory minimum standard including providing for benefit accrual at at least the rate of 1/120th of salary per year of service.
When Will These New Requirements Apply?
The new regime is to be phased in from October 1, 2012, with all employers covered by September 1, 2016. There are more than 40 incremental dates for introduction to the regime, at monthly intervals, with the largest employers (those with a workforce of 120,000 or more) being the first affected. Employers with between 500 and 50,000 employees will all be subject to the new regime at some point in 2013, with everyone employing over 50 people to be included by June 1, 2014. Workforce sizes are calculated by reference to an employer’s Pay As You Earn (PAYE) scheme, and PAYE reference numbers are used to determine when (from July 1, 2014 onwards) those employers with a workforce fewer than 50 fall under the new regime.
What Steps Should Employers be Taking Now?
After calculating when the new regime will apply to an employer of their size, employers should calculate how many staff are potentially eligible for automatic enrolment. The new provisions, where enrolment is automatic unless individuals themselves take the initiative to opt out, mean take up under the new regime may exceed that of any current pension plan an employer offers.
Attempts should then be made to calculate the costs of complying with the new regime, and, subsequently, whether it would be more cost-effective for the employer to use Nest or another qualifying scheme. Those employers who already offer a pension plan may find it easier to adjust this in order for it to meet the thresholds for a qualifying scheme; those without current pension arrangements, and particularly smaller employers, may find Nest the cheaper and easier option.
There have been concerns that employers may "level down" their current more generous pension provisions to the new minimum level to help mitigate the increased cost of auto-enrolling employees who currently do not receive employer contributions to a pension plan. If an employer wants to take that course of action, detailed advice will be needed on whether it can properly amend benefits in this way.
Regardless of the path chosen, it is likely that for many employers, particularly those not currently contributing to employee pension arrangements, the new regime will represent a significant cost increase. Consideration will also need to be given as to how new or altered schemes will be administered and how jobholders will be provided with required pension provision information.