The Department for Work and Pensions (DWP) has been consulting on a range of proposals to make it easier for people to save more for retirement, including addressing issues around the accumulation of small pots by members.
The reforms to small pensions pots comes in the context of the new Pensions Minister, Laura Trott, announcing a raft of new defined contribution (DC) scheme measures in an effort to close the pensions inequality gap, aiming to create “fairer, more predictable, and better-run pensions”. The measures include plans to extend collective defined contribution schemes to accommodate multi-employer schemes and a DWP consultation on a new value for money framework, developed in partnership with the Pensions Regulator and the Financial Conduct Authority, which sets out how schemes will be expected to provide savers with better value from their investments and the quality level of service.
Small pots, big issue?
Having various different small pension pots can increase the risk of members losing track or losing out financially through admin costs and inefficiencies, and this has become more of an issue since the introduction of automatic enrolment in 2012. Since 2018, the value of lost pension pots in the UK has risen by 37%, from £19.4 billion to £26.6 billion, according to research from the Pensions Policy Institute.
The DWP has narrowed down the solution to the small pots issue to either the creation of default consolidators or the introduction of pot-follows-member legislation. We consider both of the options below.
Option 1: Automatic transfers to consolidator
Under the default consolidator model, deferred small pots that are eligible would transfer automatically to a consolidator, with members being given an opportunity to opt out if they so wish.
There are a variety of ways through which a member could be allocated to a consolidator scheme, such as this being the first scheme with which the individual is enrolled when first joining an auto-enrolment scheme. There could also be a list of approved consolidators for the member to choose from or, for those not taking the opportunity to make an active decision, they could be allocated to a consolidator from a carousel system.
Option 2: Pot-follows-member
Under the pot-follows-member model, when an employee moves jobs their deferred pension pot in their former scheme would automatically move with them to their new employer’s scheme, if it meets the chosen eligibility criteria for automatic consolidation.
We think it will be important that careful consideration is given to establishing what the value would be for a pot to be considered small, since setting the maximum value at too low a level may result in insufficient consolidation while, if the limit is set too high, there is an increased possibility that members may be put at risk of greater detriment as a result of their pots being moved into a single scheme, which has differing and more costly charge structures or lower investment returns.
Taken as a whole, the proposed reforms announced by the Pensions Minister have the potential to enable savers to benefit from greater efficiency and value from the management of their pensions, including through the consolidation of small pots which people have accumulated through their careers. Further reforms for DC schemes may also be on the horizon as the Pensions Minister has recently hinted during a House of Commons debate that a detailed timeline (currently, the government’s timeline is set for “mid-2020s“) for the reforms suggested by a 2017 review of auto-enrolment policy would be set out once there was collective agreement. For more on auto-enrolment and what the future reforms might look like, see our article here.