Buyer’s Guide feature – Contract-based pensions

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The market for group personal pensions (GPPs) and employer-sponsored stakeholder pensions went largely on hold during 2004, as providers grappled with the challenges to their systems caused by the new tax rules due in April 2006. When these come on stream, however, they should give a boost to both types of pension, and there are other changes in the offing which will do the same. There are still too many providers in the marketplace, however, with more likely to drop out as they fail to reach critical mass. And while more investment choices are being made available, previous options remain the most popular.

When stakeholder pensions were launched back in 2001, the insurance industry saw a sudden jump in regular premium business, but this was not sustained beyond 2002. According to figures from the Association of British Insurers, new business in regular premiums for GPPs is running at around twice the level of that for employer-sponsored stakeholder schemes. For both types, market growth is being largely driven by what is happening in final salary schemes. As employers have been closing these to new entrants or to further accrual of pension funds, they have had to decide what alternatives to offer to their workforces.

Around half have created occupational defined contribution schemes, but the rest have gone down the contract-based route of arranging a GPP or stakeholder pension. Kevin Painter, European partner at employee benefit consultants Mercer Human Resource Consulting, believes the impact of both the Finance Act and the Pensions Act, along with the recently-announced relaxation of the rules governing employers’ promotion of stakeholder pensions, will swing the balance away from pensions trusteeship and towards the contract basis. Stakeholder pensions tend to win over GPPs in the selection process. "

All things being equal, we find the arguments are stronger for stakeholder than for GPPs. The ceiling on charges is there in stakeholder but not in GPPs, although a lot of [providers] have adopted a stakeholder basis for their charges. We tend to find providers willing to implement stakeholder for our clients with a sufficiently low annual management charge to allow access to guest funds within the overall package, so we don’t have to go down the GPP route. Also, if employers designate a stakeholder scheme, legislation absolves them from monitoring it. We still want them to monitor it, but it will be driven by best practice rather than legislation," says Painter. However, so many of the employers that were going to close their final salary schemes have now done so, that there is much less new business coming from that direction.

Providers see a good future, though, once they have grappled with the systems changes needed to meet the Inland Revenue’s new simplified tax regime. >From April 2006, staff will be allowed to put up to 100% of salary into a scheme during a year. Though it’s hard to see anyone doing that on a regular basis, it could mean employees paying in windfalls and bonuses or rearranging their savings as they get closer to retirement. Full concurrency will also open up a new market. Currently, staff earning over £30,000 a year are barred from contributing to a personal pension as well as their occupational plan, while those earning less can do so, but only up to £3,600 a year. Some boards of trustees may also decide to close additional voluntary contribution (AVCs) arrangements, because they are entitled to do under the Pensions Act 2004, and redirect employees’ extra payments into GPP or stakeholders.

On top of this, under the Pensions Act 2004, an employer that takes on staff under the Transfer of Undertakings regulations (Tupe) will need to check whether they had a pension scheme with their previous employer. If they did, the new employer will have to provide either an occupational scheme or a stakeholder pension with employer contributions matching those of staff up to 6% of salary. However, for the moment the marketplace is overcrowded and consolidation looks likely. Andy Cheseldine, senior consultant at benefit consultants Watson Wyatt, says that one of the things they look at when assessing products for their corporate clients, is sustainability – will they still be there in a few years’ time? With stakeholder pensions in particular, "we always thought that the 40-50 schemes originally registered with the Occupational Pensions Regulatory Authority (Opra) was too many, and, in due course, it would come down to perhaps eight or nine."

The number of investment options in stakeholder pensions or GPPs continues to increase, although only a small minority of staff ever get actively involved in managing their pension fund options. For around 80%, whatever is set out as the default option is what they take. That usually means some kind of lifestyling arrangement, where a high proportion of the contributions are invested in equities to start with, and moved across to gilts and bonds as employees age. Some providers are now offering around three different lifestyle options as standard, "but the difficulty is to know what to call them. If you describe them as balanced, cautious, and adventurous then everyone goes for the balanced one. Maybe we should call them just A, B, and C," Cheseldine explains. All the changes create new communications challenges. "More effort is going into worksite marketing, communication and education. We see member engagement as an important part of the package from an employer’s point of view. It can be better to spend slightly less on employers’ contributions and more on communication, to get full value," Cheseldine explains.

The factsWhat are stakeholders and GPPs?

Personal pensions are individual pension policies sold by insurance companies and other financial institutions. Group personal pensions (GPPs) are simply personal pensions where the employer has made the arrangements, and is (usually) putting in a contribution. Stakeholder pensions have existed since 2001, and, like GPPs, are a type of low-charge defined contribution pension, which must be registered with the Occupational Pensions Regulatory Authority (Opra). Both are based on contracts between the individual and the provider, so there is no need for trustees. Hence, they are called contract-based as opposed to trust-based schemes.

Where can employers get more information and advice?

For the register of stakeholder pensions, see register/whatis.asp. For help in selecting a stakeholder or GPP provider, talk to a benefit consultant or independent financial adviser. Look at the website of the Society of Pension Consultants, or at

In practice

What is the annual spend on the product? This is hard to determine because insurance industry statistics do not distinguish between money that is simply transferred between rival companies, and genuinely new money. However, a recent review by the Association of British Insurers’ suggests new business figures of around £200m a quarter for GPPs and £100m for stakeholder schemes.

Which providers have the biggest market share?

Providers in the corporate field include Winterthur, Friends Provident, Royal & SunAlliance, Scottish Life, Standard Life, Prudential, and US giant US Fidelity. Meanwhile Invesco has outsourced its administration to consultancy Jardine Lloyd Thompson, and no longer appears interested in seeking new business.

Which providers increased their market share most over the past year?

Industry figures are not readily available, but Prudential is thought to be pushing forwards. Legal & General, meanwhile, is doing well in the IFA-driven sector of the market.

Nitty gritty

What are the costs involved?

The maximum permitted charge for a stakeholder pension is 1% of the fund. This is due to go up in April 2005 to 1.5% of a fund for the first 10 years of a new contract. Providers may bring charges down to 0.5% to 0.8% for group business. Costs of advice will vary; the Society of Pensions Consultants says that hourly fees for its members are in the region of £85-£245.

What are the legal implications?

Organisations that have at least five eligible employees, must have a pension arrangement. This can be an occupational pension, a GPP into which the employer contributes at least 3% of salary, or a stakeholder scheme (to which employers need not contribute). From April onwards, if an employer takes over staff under Tupe, they may also have to provide and contribute towards a stakeholder pension. By law, stakeholder schemes must be registered with Opra.

What are the tax issues?

Employer and employee contributions qualify for tax relief. From April 2006, new tax rules will allow most employees to pay in greatly increased amounts. These will also permit everyone to pay into occupational pensions and stakeholder pensions at the same time (called "full concurrency"). Currently there are restrictions on this especially for higher paid staff.