Martin Palmer: What lies beneath auto-enrolment?

This article is supplied by Friends Life.

Auto-enrolment is on course to breathe new life into pension saving. But what hidden factors could affect its fate, and how can employers set their scheme apart?

As the focus of auto-enrolment shifts from large organisations in low numbers to smaller businesses in high volumes, a picture is already emerging of the future workplace pensions landscape. Millions more people saving for retirement and single-figure opt-out rates are the fillip; comparatively low contributions being paid are the flipside.

Diminishing returns

The coalition government’s twin aims, to provide a tax break for lower-paid workers and bring more employees into the higher-rate tax band, have taken thousands out of auto-enrolment and stunted the value of contributions for schemes using qualifying earnings.

The flatlining contributions shown are caused by tying auto-enrolment limits to other tax thresholds. This presents a difficult conundrum for businesses: cutting the link will undoubtedly add more complexity to payroll processes, while maintaining the link could continue to erode the value of an important employee benefit.

The affordability of contributions is also a concern if inflation outstrips pay rises (0.9% as at January 2014). Should this trend continue, it may find itself on a collision course with planned rises to auto-enrolment minimum contributions in 2017 and 2018.

The industry will need to work even harder at these crucial moments to ensure employees understand the importance of increasing contributions and discourage the temptation to opt out.

Not-so-great leveller?

Until auto-enrolment, simply having a half-decent pension scheme in place may have been enough to distinguish an organisation’s benefits provision from its peers. But the days of haves and have-nots are no more, so how can employers set their scheme apart? The crude answer is to pay in more: the Pensions Quality Mark (PQM) from the National Association of Pension Schemes sets its standard at 10% or 15% for its PQM Plus.

But despite signs that the economy is in ruder health, raising contributions at this time remains, for some, a distant possibility. In any case, employees must be dissuaded from thinking that minimum contributions alone will fund a comfortable retirement. The difference between 8% and 12% may seem an irrelevance, but the reality is anything but.

Distinguishing investments

There are other ways to stand out from the pack. Simply providing access to other savings products, for example individual savings accounts (Isas), can join up the dots of short-, mid- and long-term saving. The design of a default investment option is also vital; by choosing carefully and making sure it is well managed, a default can work harder with employers’ and employees’ money.

Promoting better financial education is a well-trodden path, but now is a better time than ever. The flat-rate state pension should provide greater clarity on the actual level of benefits that employees can expect from the state. It also opens up the opportunity to re-engage with staff in middle age and get them thinking more seriously about their future.

It comes down to what an employer wants from its pension scheme. Is it compliance with the duties, or a retention tool that makes a more positive difference to employees’ futures? The success of any scheme hinges on what is paid in, and the hard truth is that for many, auto-enrolment minima will not hit the heights of employees’ retirement ambitions.

But however an organisation backs its scheme financially, to prove its worth, it needs to find new ways to make it stand out.

How contribution levels are changing

£96.24 in 2012/12

£94.85 in 2014/15

Monthly contributions for an employee earning £20,000 based on qualifying earnings and steady state minimum contributions.

Martin Palmer is head of corporate benefits proposition at Friends Life