The Queen’s Speech marks an important event in the political calendar, as it sets out the government’s agenda for the forthcoming parliamentary session. With a general election on the horizon, this year included a number of interesting announcements, most notably plans to allow workers to contribute to Dutch-styled collective pensions that would pool risk between members and potentially allow for more stability around pension outcomes in retirement. This follows on from a series of pension reforms announced by the Chancellor in the Budget in March.
The intention is that these collective pensions will provide more value to pensioners and to reduce the risks associated with individual pension schemes.
What does it involve?
Under the new scheme, workers would be able to pay into funds with other members, which would pay an income on retirement. This collective fund would then be invested in the normal way. These schemes already operate in the Netherlands and Scandinavia. The legislation in the UK would contain a number of measures relating to the valuation and reporting requirements for these collective schemes.
How will it work?
Most workers currently save into a private defined contribution pension scheme, whereby they put money into their own individual fund. On retirement, they cash in their savings and at the moment use that money to buy an annuity (although this is subject to change as a result of the Queen’s Speech), which provides a guaranteed income.
With collective pensions, instead of being cashed in on retirement, workers’ savings would remain invested in the collective fund, which would pay out an income every year. This would remove the need to buy an annuity. The collective fund would also be expected to grow as the investments makes profits.
What are the benefits and drawbacks of the scheme?
Collective pension schemes are designed to provide certainty for workers, whereby the profits that the funds make are held and paid out in years of negative returns. It also helps to “pool the risk” of pension investments performing worse than expected across large numbers of people and to negate the volatility of the stock market. Steve Webb, the Pensions Minister said that collective pensions provide “a more certain outcome and potentially a better one” and referred to the suggestion by some advocates that collective pensions may provide up to 30% better incomes than existing pension schemes.
Surprisingly, the loudest critics are from the Netherlands, where the scheme originates from. In the Netherlands, there has been a political de- bate following disappointing performance of some schemes as to whether collective pensions should be replaced by British-style individual pensions. The main drawbacks are that it provides a target rather than an actual guar- antee of income that workers can receive on retirement. It also does not provide cast-iron certainty for workers. Where the collective fund does not perform as expected and does not generate the predicted profits or where the stock market plunges, the incomes that workers could receive are still affected.
When will it come into effect?
No date has been officially set, but most commentators are predicting that the new scheme will be introduced by 2016. This is likely, regardless of the outcome of the general election, as there is political consensus on collec- tive schemes amongst all three political parties.
What does it mean for employers?
The new scheme does not impact on employer’s auto-enrolment obliga- tions. Employers can also continue to offer their traditional pension schemes. However, for employers operating final salary schemes, the new arrangements may represent an attractive alternative.
And that’s not all on the pension front…
The Chancellor in the Budget announced a number of significant measures designed to give greater freedom and choice to pensioners, which amounts to a major pension reform. This has been formalised in the Queen’s Speech in the form of the Pensions Tax Bill and the Private Pensions Bill. The proposals in the Pensions Tax Bill include:
- Introducing a new tax framework that removes restrictions to the way individuals can access their defined contribution pension savings (which would include allowing individuals to access their fund in full without the need to buy an annuity), and to allow them to access their savings subject to their marginal rate (instead of the 55% tax rate that currently exists).
- Removing the previous restrictions the government placed on how people are able to access their money, and give individuals the free- dom and choice to access their pension as they see fit.
Anti-avoidance provisions will also be introduced to prevent individuals tak- ing advantage of the new flexible arrangements for tax avoidance purpos- es.
Aside from collective pensions, the Private Pensions Bill also contains changes designed to provide wider choice and more certainty on pensions.
It would include a new legislative framework, with three different schemes: a defined benefit scheme, a defined ambition scheme or a de- fined contribution scheme. It would also provide individuals approaching retirement with a defined contribution pension, the opportunity to receive free and impartial advice to assist their decision-making, through a “guidance guarantee”.
In all, these changes represent a radical reform of the pension landscape in the UK. We will of course keep you updated as these bills progress through Parliament and into legislation.