Be prepared for the Pensions Act in 2012

As the Pensions Act approaches, there are a number of issue for employers to consider beyond auto-enrolment and compulsory contributions, says Jenny Keefe

Much has been written about how the Pensions Act 2008 will affect employers. But beyond personal accounts and increased pension costs from auto-enrolment and compulsory contributions, little has been said about the avalanche of other factors HR departments need to consider.

David Hix, associate director at Jelf Employee Benefits, says: “This is probably the biggest change to pensions since the 1950s. Over 10 million people in the UK could be auto-enrolled into pension schemes on the same day. Yet few employers seem to be giving this any attention.”

Only one-third of top companies have considered Act’s effects

According to Watson Wyatt’s 2009 FTSE 100 Defined Contribution Pension Scheme Survey, only one-third of FTSE 100 companies have considered the Pensions Act’s effect on their pension schemes come 2012, so it is clear employers have some catching up to do.

“The lack of planning to date by many employers is understandable, given the uncertainty around details of the legislation,” says Hix. “But, considering the size of the fines being talked about, and even the potential threat of custodial sentences for wilful failure to comply, this is scary stuff.”

How should HR managers approach 2012?

So how can HR managers approach October 2012 without a feeling of queasy apprehension? First things first: they need to figure out which employees are job holders, and so are covered by the legislation. Steve Herbert, head of benefits strategy at Origen, says: “Identifying job holders should not be that onerous. Essentially, they are anyone over the age of 22 with earnings over the lower-earnings threshold. This is likely to include contract workers, because they are one of the key under-pensioned groups that the UK needs to encourage to save.”

Draft plans indicate responsibility for contributions will fall to the organisation that pays contract workers’ wages. “Enrolment is likely to sit with the agency, rather than employer,” says Herbert. “But that does not mean this is a free ticket for the employer. If agency costs increase as a result, they are likely to pass the cost on to the employer in higher fees – a significant bottom-line hit for employers that use a lot of temporary staff.”

Workers on fixed-term contracts

Contributions for workers on fixed-term contracts could gobble up even more cash. Robin Hames, head of technical, marketing and research at consultancy Bluefin, says: “Employees brought in on a fixed-term contract will be eligible, as will those seconded to the UK for a fixed period. Employers will therefore need to consider the added cost when hiring fixed-term workers, and their global mobility terms and arrangements for employees doing a stint in the UK.”

Another key question for employers to consider is what will happen when overtime pushes low-earners over the threshold, triggering auto-enrolment. These staff could get a shock when they discover pension contributions have been deducted from their wages.

When should staff be enrolled?

David Robbins, a senior consultant at Watson Wyatt, says: “The act suggests staff will be automatically enrolled when their earnings exceed £5,035 [in 2006/07 terms], but it does not make it clear when this is. Should they be automatically enrolled on the day they work the shift that takes their expected earnings above this level, or at the end of a pay period when it looks like their annual income will be above the threshold? “It is clear employers will have to keep a close eye on salaries, but we do not yet know precisely what they will have to look out for.”

To make matters even more complicated, although employers are allowed to write to staff warning them they have slipped above the threshold, they cannot enclose opt-out forms. “It is proposed that opt-outs should only be available from the pension scheme after the joining process is complete,” says Robbins. “The employee may not know when their employer has sent the data to the scheme administrators, so will not know when the forms are available.”

Forewarn lower-paid staff

Forewarning lower-paid workers is crucial, but employers must choose their words carefully, says Bluefin’s Hames. “With no changes to means-tested state benefits likely in the foreseeable future, employers may find themselves auto-enrolling a number of low-earning employees who really ought to be subsequently opting out. The employer cannot advise or give inducements, but, ultimately, who will the employee hold responsible if they discover savings in their employer’s pension scheme have merely reduced their entitlement to state benefits?” Another controversial rule is that workers cannot opt out before the joining process is complete, at the point when the scheme administrator receives the member’s details. This means there is more chance employers will have to deduct contributions from salary, and refund them later.

Lee Hollingworth, head of defined contribution consulting at Hymans Robertson, says: “The prohibition on employees opting out before their automatic enrolment date creates an unnecessary administrative burden on employers. HR will have to enrol workers and then refund them, despite knowing they never wanted to join in the first place.

“In certain circumstances, an organisation will be obliged to refund contributions to the employee before they have received the refund from the scheme administrator, creating a cashflow issue for the employer.”

Refunds for staff opting out

Employers will also need to decide where to stow away contributions in the meantime, because if workers ditch the pension within 30 days, they are entitled to a full refund. Employers could be stung for the difference if a fund dwindles.

But it is not just low-earners who could be left out of pocket. Martin Palmer, head of corporate pensions marketing at Friends Provident, says: “People can choose to opt out, but if they do, they will be automatically re-enrolled every three years. This can trip up busy executives who have opted for enhanced protection of their pre-A-Day pension savings.

“Every three years, senior members of the organisation who are not in a scheme because they have surpassed the lifetime limit will have to remember to opt out again or potentially join a basic scheme and suffer losses, with potentially disastrous consequences for the HR administrator found responsible for the mistake. Of all the new HR processes required by personal accounts, the one that stops problems for the boss is the one that needs consideration.”

Payroll systems will need upgrading

Payroll systems will also have to be upgraded to cope with the new rules. For example, the system will need to pick up employees who have opted out and automatically re-enrol them every three years thereafter. Hix says: “I do not think it matters whether the payroll system is in-house or not, it is likely to be an absolute nightmare. As it currently stands, the sole body responsible for auto-enrolment is the employer, so even if payroll is outsourced, it seems unlikely that the employer will be able to abdicate responsibility. The only option is [for organisations] to start planning early, and understand the likely requirements and ramifications.”

Employers’ pre-2012 action plan:

  • First, pick the type of scheme. Decide whether to offer personal accounts, another qualifying workplace pension scheme, or both.
  • Upgrade payroll systems. Among other things, systems will need to automatically re-enrol workers every three years and notify pension administrators of new joiners.
  • Tell workers what to expect. Let employees know about the new scheme, especially low-earners who are skirting the enrolment earnings threshold.
  • Sort out opt-out. Put in place procedures for workers to opt out, receive any contribution refunds, and be automatically re-enrolled every three years.
  • Enrol employees. From 2012 (currently set for October), employees will need to be automatically be enrolled in a workplace pension scheme or personal accounts.
  • Adapt flex. Employers with flexible benefits schemes will have to ensure these reflect the new minimum contribution levels.
  • Prove it. Sign up with The Pensions Regulator to show you have fulfilled your enrolment duty, and certify that contributions meet qualifying levels.
  • Be on hand to help. Employees are bound to have questions, such as how can they opt out, will it affect their state benefits, and can they get a refund?

How the Pensions Act 2008 will work:

  • From 2012, employers will have to automatically enrol all staff aged over 22 years and earning more than about £5,000 into a workplace pension plan
  • Organisations will not have to sign up employees for personal accounts if they automatically enrol them in an occupational pension scheme with the same, or better, benefits.
  • Employers must contribute a minimum of 3% of qualifying earnings. Workers must pay in 4%, topped up with 1% as tax relief from the government.
  • Employees can choose to opt out, but if they do so, they will be automatically re-enrolled every three years thereafter.
  • If personal accounts are used, the money will go into a default fund, unless the employee chooses otherwise. It is likely staff will get a few simple investment options to choose from.
  • Personal accounts are being developed by the Personal Accounts Delivery Authority (Pada).