A guide to auto-enrolment
Whether you’re an accountant in a multinational corporation or a nanny employed by one family to look after their brood, your employer will be legally obliged to offer you a workplace pension by 2018.
Auto-enrolment, as it is known, is expected to encourage nine million more people to save for the first time, or to put aside more than they were previously into their workplace pension scheme.
So far, 5.4 million people have been automatically- enrolled by more than 58,000 businesses. This number will increase sharply this year, as since 1 January 2016 the rollout of workplace pensions for small employers, even those employing just one person, has begun.
If you are one of the millions who have just signed up, here’s everything you need to know about your new pension scheme.
What is auto-enrolment?
Concerned that an ageing population is failing to put enough aside for retirement, and becoming ever- more reliant on the state pension, the government introduced reforms to the law, through the Pensions Act 2008, that require all employers to contribute towards their staff’s retirement savings.
Employees will be automatically opted in to the new workplace pension schemes to encourage a savings habit. This means you don’t have to take any action to start your pension once your employer has a scheme up and running. Your personal pension contributions will be deducted from your salary before you receive it, so you’ll never see them, and your boss will top this up.
Not everyone will be eligible, however. To qualify you must be aged between 22 and state pension age, earn over the threshold, which is currently £10,000, and have a contract of employment, rather than be a self-employed contractor.
The scheme has been rolling out since October 2012, when the largest companies, employing over 120,000 people, had their ‘staging date’. From January 2016, the very smallest firms, those employing fewer than 30 people, have to get on board too.
So far, auto-enrolment has been working. More than half (52%) of employees in medium-sized businesses are now saving adequately for their retirement. According to Scottish Widows’ latest Workplace Pensions report, this is up six percentage points in the last year. Meanwhile, 39% say they feel more optimistic about their long-term financial future, compared to 36% in 2014.
Opt-outs from automatic enrolment have been low, which has led to the highest number of people saving for their retirement since 1997.
How much will you save?
Workers enrolled into the scheme must currently contribute a minimum of 0.8% of their salary, which is topped up by at least 1% from their employer. Tax relief is worth a further 0.2%. This means you are saving a total of, at a minimum, 2% of your salary towards retirement.
These rates will increase over time, and were supposed to rise to 5% in October 2017, with employers contributing 2% and employees 2.4%, and to 8% in October 2018, with employers contributing 3% and employees 4%. In November’s Autumn Statement, however, George Osborne announced the rate rises will be delayed for a further six months, the first occurring in April 2018, and the second in April 2019.
Should you opt out?
“Most people can’t go too far wrong from staying in their company pension when they are auto-enrolled,” says Nathan Long, head of corporate pension research for adviser Hargreaves Lansdown.
“Losing a few pounds from your pay packet is a small price to pay for a more affluent retirement. This is especially true given pension contributions also benefit from tax relief from the government and a contribution from the employer. The Department for Work and Pensions initially found only 9% of those enrolled have decided to opt out. Feedback from people newly enrolled into pensions is that they always knew they needed a pension, they just never got round to joining one. Auto-enrolment has saved them a job.”
You may feel that you can’t afford to pay into a pension while paying down debts or saving for a mortgage and so decide to opt out with the intention of rejoining at a later date. But delaying pension planning can cost far more than you imagine.
Take someone earning £21,000 a year who is enrolled into their company plan at age 22. They pay contributions of 8% a year. If they stay in, they can expect a pot of £87,600 in today’s terms when they reach 68. Opting out and re-enrolling three years later would reduce their pension pot at 68 by to £13,900 to £73,700.
Long adds: “Initially, we saw a greater proportion of older workers choosing to opt out compared to their younger colleagues. Many felt that they were just too close to retirement and saw little point starting to save in the twilight of their career, when the likely outcome would be to buy a small annuity, perhaps paying only several pounds a week. However, with the advent of pension freedoms in April 2015, people can now access their pension as a cash lump sum as opposed to buying an annuity at retirement.”
Alan Higham, adviser for Pensionschamp.com, agrees that it is better not to opt out. “Your employer’s contribution may only be 1% of pay today but it is due to rise to 3% by April 2019. Many employers pay more than the minimum required by law so you could miss out on a decent chunk of ‘free’ money.
“Opting out may also mean not saving at all. It takes time to build up a decent retirement fund to support you for 20 years or more after you stop work. Are you really going to set up your own pension plan?”
Another advantage is that an auto-enrolment scheme has pension charge caps applied automatically. This means it may be a lot cheaper than a pension scheme you choose to set up independently, as long as your employer has negotiated wisely.
Charges for the National Employment Savings Trust, the workplace pension set up by the government specifically for auto-enrolment, work out at about 0.5% for most savers, significantly lower than many other pensions.
Higham adds: “Pensions are very tax efficient. If you are saving for retirement elsewhere, the chances are you will pay more tax.”
As it is, those who save into a private pension can claim income tax relief at their marginal rate on up to £40,000 a year of contributions. This means it costs, for example, £800 to save £1,000 into your pension as a basic-rate taxpayer, and only £600 if you’re a higher rate taxpayer. For those who pay 45% tax, the cost is just £550.
Those who could benefit from opting out are savers who already have very large pensions and have registered for protection against the lifetime limit for pension savings, known as the lifetime allowance, which is £1.25 million – falling to £1 million in April. This is the maximum amount your fund can grow to, including investment returns, without being liable for tax. If you pay more into your pension, even through an auto-enrolment scheme, you could be faced with a hefty tax bill.
Should you contribute more?
The best thing you can do to boost your chances of a decent retirement income is to start saving early. According to calculations by Legal & General, you need to save £216 a month into a pension from the age of 25 to achieve an annual pension income of £5,000 in today’s terms when you reach 65. If you wait until you are 45 to start saving, you would have to pay in £405 a month to achieve the same income.
You may therefore need to consider topping up the money you are expected to pay into your workplace pension. A general rule of thumb is to save half of your age as a percentage of income, so for example, a 40- year-old should save 20% of their salary, while a 20-year-old should save 10%.
Long suggests that for most people, a decent retirement income can be achieved with contributions of 15% of their salary throughout their working life. “Auto-enrolment currently requires minimum contributions of 2%, rising to 8% from 2019 – some way short of the required level. People who fail to pay in more could end up limping through retirement on less than they had bargained for, or working longer than they wished.”
It is worth considering your other priorities before piling all of your spare cash into your pension, however. Younger people should ensure they have enough savings, advisers generally recommend enough to cover three months’ worth of essential outgoings in an instant-access account. Also consider individual savings accounts (Isas) before locking away your money in a pension accessible only once you are aged 55. Isas are not as tax-efficient but give you flexible access to your money.
If you haven’t been auto-enrolled
Many employers are still unprepared for auto-enrolment. In a survey by pension provider NOW: Pensions, one in five small firms and 75% of micro firms admitted they haven’t even thought about it.
Morten Nilsson, chief executive of NOW: Pensions, says: “If employers are late, then they risk being fined by The Pensions Regulator. All employers, within five months of their staging date, need to complete a declaration of compliance so that the regulator knows that they have met their auto-enrolment duties.
“Employers who don’t complete their declaration by their deadline may be subject to enforcement action. The fixed-penalty fines start at £400 but increase considerably.”
If your company is failing in its duty to provide a workplace pension, you can report it to The Pensions Regulator. Just complete the ‘whistleblowing’ form at Thepensionsregulator.gov.uk, email details of your concerns to email@example.com or call 0345 600 7060.
You can choose to be anonymous when reporting your company, but The Pensions Regulator says it is useful to have contact details to investigate. You have whistleblowing protection under the Employment Rights Act 1996 – The Pensions Regulator promises to do its best to protect your identity, but it is not guaranteed.
What employers need to do to comply
You may find you need to set up a pension scheme for your employees. This also applies to those who would not consider themselves business owners, but who hire a nanny, care assistant or a housekeeper, unless they are paid by an agency.
You must start a pension for anyone who earns more than £833 a month, or £192 a week, and is between 22 years old and state pension age.
You can use The Pensions Regulator’s online duties checker to determine your specific responsibilities at Tpr.gov.uk/task-assess.
This will also help you to establish your declaration deadline – the date by which you must let the regulator know you have fulfilled your employer responsibilities, which is usually within five months of your staging date.
Choose a pension scheme for your employees around six months before your staging date. If in doubt, the National Employment Savings Trust must accept all employers who ask to join it.Then write to your staff within six weeks of your staging date, explaining how auto-enrolment applies to them. There is a helpful template letter at Tpr.gov.uk/notify-staff.
Once the scheme is up and running, monitor employees in case their circumstances, such as age or salary, change. If any of your staff write to you asking to join a pension scheme, you must allow them to do so, though as an employer, you don’t need to pay into the scheme until they earn more than the £10,000 a year threshold.
If any of your staff want to opt out, you should stop taking the money out of their pay and arrange a full refund of what has already paid within one month of their request.
Make sure you keep thorough records to show you have met your legal obligations.
The National Employment Savings Trust
NEST is a government organisation that aims to provide a simple and low-cost pension scheme designed to give its members an easy way of building up retirement savings. You have one NEST retirement pot for life, whether you change jobs, work for more than one employer at the same time, or leave employment. A NEST scheme won’t allow transfers in and out. From 2012, all employees will be obliged to join workplace pension schemes unless they actively opt out and NEST will be the default fund for those employers who do not create comparable alternative arrangements. It will be phased in from 2012 and all employers will be required to contribute 3% by 2017.
In exchange for any lump sum – usually your pension fund – an annuity is “bought” from an insurance company and provides an income for life. When you die, the income stops. Annuity rates fluctuate daily and depend on your sex (although from 21 December 2012 insurers will no longer be able to use gender as a factor when calculating annuities), age, health and a number of other factors, so you have to pick the right one and, once bought, its terms cannot be altered, so seek financial advice.