With AE contributions set to rise from next month, Natanje Holt picks out four auto-enrolment issues the financial services sector must address sooner rather than later to ensure opt-out rates remain low.
So far, the introduction of auto-enrolment has been considered a success. Opt-out rates have remained low and this should only be seen as a positive. Up to now, however, the level of contributions has also been very low – just 2% – and it is clear there is still a long way to go if we want to provide people with a sufficient pot for retirement.
To that end, April will see this contribution level increasing to a total minimum of 5%. Raising the contribution levels is the right next step – at current amounts, people are not saving enough for an ample retirement fund – and yet the impact this rise could have should not be underestimated.
There are still a number of issues the financial services sector needs to address before the 1 April deadline if we are to see opt-out rates remain low and people continuing to engage with their pension pots.
We do not yet know how people will react to the contribution rates rising and the effect this will have on opt-out levels. Arguably, part of the reason for opt-out rates remaining low so far can be attributed to inertia. Inertia is only prevalent, however, when the amount of money being saved is not affecting people’s living wage. As contribution levels rise, more people may see the effect on their short-term income and decide to opt out because of that.
That being so, the industry needs to identify a ‘trigger point’ that is activated when the number of opt-outs hits a certain level. There are myriad reasons why people may decide to opt out – be it lower earners feeling the contribution rates are too high, say, or the older workforce feeling they will have better options saving into other schemes. By having a trigger point in place, it means we can create real and valuable contingency plans to ensure those people who do opt out are not forgotten and that there are alternative options available to them.
These plans should be being created and put in place now – so we are ready if and when we may see a significant increase in the amount of people opting out. One such option could be to default people back to the lower contribution levels, while also putting in place nudges to encourage them to move back to the higher rate later on.
This could be particularly necessary for younger, lower-income earners, who may feel the rise in contribution rates, combined with a potential rise in inflation and stagnant real wages, puts too much additional pressure on living costs. Members such as this could benefit from a scheme that has lower contribution rates, enabling them to contribute a small amount each month without feeling like they were giving away too much of their hard-earned money.
Communication To Employees
Communication to employees is crucial. Without adequate knowledge of the benefits and advantages of saving into a workplace pension, the battle to keep people opted-in becomes even harder. We need to ensure we are educating members on the importance of savings, and how initiatives such as auto-enrolment are set up to enable easy saving – not to mention compounding the message it is essentially ‘free money’. This will hopefully provide people with enough of an understanding of savings, in preparation for the rate rise, not to opt out on impulse.
Providers of workplace pension schemes and their advisers need to engage with their customers and target those members who need it most. Nest has suggested people should be aiming for an income of at least £15,000 a year, as this is where they begin to feel more comfortable and financially secure.
The ability to achieve this, though, will vary depending on where members currently are in their savings journey, and the time horizon they have before retirement. Running through the numbers to compare, say, the pension pot a 22-year-old could generate at the current minimum contribution levels and what a 40-year old could manage with 18 years less to save can focus minds.
These sorts of figures need to be more widely shared and employers and their advisers especially need to be directly targeting those workers who are in most danger of having a shortfall.
By putting a realistic figure on retirement, many might feel more inclined to engage with savings. This will not only make their current pot more tangible but will also give employees an aspirational target.
These are all simple steps that could translate into a big impact in ensuring auto-enrolment does not fall at this next hurdle of contribution rises.
*This article first appeared in Professional Adviser on 3rd October 2018.