Recap - what is happening in 2012?
The Pensions Act 2008 (the Act) is the latest of a series of policy reforms aimed at challenging Britain's looming demographic crisis. Put simply, too many people save too little (or nothing at all) to provide for themselves in retirement. With this reform the Government is trying to nudge people into saving more in their pensions. The Act:
- details the employer duties - requiring all employers to automatically enrol 'jobholders' into a 'qualifying workplace pension arrangement' and to pay minimum contributions
- defines 'eligible jobholders' as workers, in Great Britain, under contract, aged between 22 and State Pension Age and earning between £5,035 and £33,540 (in 2006/07 terms)
- defines 'qualifying workplace pension arrangements' as any arrangement (including group personal pensions, stakeholders, group self invested personal pensions or an occupational pension scheme) that meets a minimum standard for contributions or benefits
- provides that minimum employer contributions are to be phased in, probably over four years, but will eventually require 3% employer contributions (along with 4% of the employee's qualifying earnings and 1% provided by the Government through tax relief).
The biggest changes for existing pension schemes will only come in 2012 with the onset of employer duties and the personal accounts scheme becoming fully operational.
Impact on existing arrangements
The most obvious solution for many employers may be to use their existing arrangements but there are some complicated hurdles to overcome - what seems simple on first glance may be more difficult, and costly, in practice.
If employers want to consider using an existing scheme it will be necessary to check the benefit provisions and mechanics of the scheme to ensure it is compatible with auto-enrolment and will discharge the employer duties. Most schemes will need to be amended in some way, and below we consider some of the main areas that will create problems.
1.Will your scheme be a qualifying workplace arrangement?
For a defined contribution (DC) scheme to be classed as a qualifying workplace pension scheme there has to be a minimum of 3% employer contributions and 4% employee contributions. This requirement will test many schemes that have employer contribution matching. These usually provide that the employer will match employee contributions from 1% up to a ceiling (e.g. from 1 - 10%). In this form they would not meet the minimum contribution criteria. A new floor of at least 4% matching would be needed to ensure minimum employee and employer contributions (e.g. from 4 - 10%). This may also generate concerns over increasing costs attributable to the scheme (see point 5 below).
Defined benefit (DB) schemes will meet the test as long as they feature accrual of at least 1/120ths on qualifying earnings. This will be met by most existing arrangements.
2.Does your scheme provide for automatic enrolment and re-enrolment of individuals?
Many schemes require prospective members to actively opt in, provide information and/or make choices before joining. To comply with employer duties, schemes need to allow the automatic enrolment of jobholders and must not require eligible workers to make any choices (such as investment choices) or require information to be provided before enrolment.
Trustees may need to select default investment options to facilitate this change, but should ensure any decisions on defaults are only made after careful consideration - there is a risk of members claiming they were not given sufficient information to make a proper decision.
In addition many schemes do not allow members to rejoin after leaving. To comply with the new regime schemes will have to allow employees to opt back in at least once every year, and they will have to comply with another round of auto-enrolment every three years.
3.Does your scheme have waiting periods and entry requirements?
The new regime will require enrolment in a pension scheme within one month of an eligible jobholder's first day at work. If your scheme has a waiting period then this may have to be removed. 'Quality' workplace pension arrangements will be allowed a three or six-month waiting period (to be determined in regulations expected at the end of this year). To qualify for this the scheme must offer at least 6% employer contributions or 1/80ths accrual.
Many schemes will have minimum entry criteria that are more stringent than those for eligible jobholders (to be over 22 and earn over the lower earnings threshold). If your scheme has higher thresholds then you will have to amend it or use personal accounts for those eligible jobholders who do not meet the scheme's entry criteria.
4.Have you considered the cost and administrative implications of any changes?
If you decide to amend your scheme so that it can be used by the employer to discharge its duties under the new regime then you should be conscious of any cost and administration burdens. Is the scheme ready to cope with a higher volume of new members, all needing to join within one month of starting employment? Is there a plan for putting systems in place to deal with this? Is the employer aware of the additional costs that will be attributable to pensions from 2012?
If you decide not to amend existing arrangements and instead use personal accounts for non-eligible workers then the employer may want to consider the impact on industrial relations of creating 'two-tier' pension provision.
5.Is the employer in your scheme considering cost saving measures?
With the reforms adding to business employment costs, some employers will be keen to explore cost saving measures. This may involve levelling down benefits - paying for the extended pension provision by reducing the benefits currently made available to some employees (levelling down).
6.Our scheme is a workplace private pension scheme - can an employer use this?
Yes, but there is a significant and unresolved problem with auto-enrolling employees into these arrangements as the EU's Distance Marketing Directive prohibits auto-enrolment for such schemes. While the Government is attempting to have this changed at a European level, this may not be in place by 2012. Until it is changed employers will not be able to auto-enrol their workers into workplace private pension schemes and will have to get employees to sign a form before they are enrolled.
Running and administering an existing scheme from 2012
Trustees, scheme managers and administrators will face a new administrative and regulatory landscape starting from 2012 (the most important reform, the employer duty to auto-enrol, will be phased in between 2012 and 2016, and will apply to larger employers first). At this stage they should just be aware of what is going to happen in the future. But it is not long until they will have to think about putting in place the training, resources and systems that will enable them to meet these new demands. Trustees will then have to consider certification of their schemes as qualifying workplace arrangements, handling auto-enrolment, opt outs and contribution refunds, opting back in and re-enrolment and the Regulator's emphasis on good scheme governance and investment. We will be covering these subjects in future alerts.
Our experts provide some suggested actions for pension scheme trustees and managers.