‘Better than Nest’ is the challenge facing intermediaries recommending alternatives - the current raft of reforms is forcing pension advisers to rethink their propositions. John Lappin reports
Faced with the burden of auto-enrolment, the bare minimum of putting everyone into Nest with no advice may appeal to employers. Factor in the advent of the Retail Distribution Review and pension advisers are having to consider their proposition as never before.
As auto-enrolment approaches, some experts fear that a combination of the difficult business environment and suspicions about financial services and the pensions industry may see many employers adopt what might be described as the state minimum requirement.
That would mean using Nest and offering the required minimum contribution level and no more.
The situation is complicated further by the ban on commission from next year, which means that advisers will have to introduce a new charging regime to employers. Nest will not facilitate consultancy charging though of course that does not stop advisers from charging a fee for services associated with setting up a Nest scheme.
Advisers say it would be a mistake to mix up Nest and the 8 per cent as if one inevitably leads to the other but accept that an association may be inevitable.
Hargreaves Lansdown head of pensions research Tom McPhail says: “We should be wary of conflating Nest, auto-enrolment and minimum contributions. Nest is just another pension vehicle, albeit one with a public service obligation, although my instinct is that most employers that use Nest will use it for the minimum.”
McPhail says that the economic environment, wage freezes, declining living standards and pressure on corporate profits will certainly see a lot of people going in at minimum contribution levels and of course some employees currently on more generous contribution levels may see them cut.
Master Adviser senior partner Roy McLoughlin says many employers will do the minimum to save themselves money but some are a little naïve about the dynamics.
He says: “They think ‘Nest will save me money’. Some think they will be able to administer it themselves. Others have said to me ‘well no-one will go in it or everyone will come out’. But I have to say ‘you don’t know if they will’. Young people in particular may stay in due to inertia. Those employers may be walking a tightrope.”
“If an employer generally has no money and has to wait till their staging date and has no ability to set up a scheme in the meanwhile because they are bereft of cash, the advice would be to set up Nest, but if you want us to do the administration or running of it, you have to think how you will pay us. At the moment, I would recommend other schemes, but there is only a limited window for that.”
McPhail suggests that the industry’s role will be to convince people that with the minimum contribution their pension could be inadequate or they will have to work a very long time, but also to convince employees that what their employer is doing for them in terms of providing a pension is worthwhile.
He says: “We are good at talking to employees, good at having these conversations. We can inform employees of the benefits of what the employer is doing for them. In carrying out that communication process, we are adding value for the employer too. The challenge is that we have to charge for that, whether through consultancy charging, or in a trust based scheme charging on the AMC or a member charge or an employer fee. We have to be able to engage with the employer on that question and achieve a satisfactory resolution. If we don’t add value and we don’t find a way to charge for it, not only do citizens suffer but we will suffer as businesses.”
He says in his view the big value adds from corporate advisers include helping determine contributions, helping with active investment decisions, improving de-accumulation outcomes, helping people to engage, and keeping the opt out rates down.
“All those metrics are relevant, where we are adding value,” he adds.
Scottish Widows head of new business development for corporate pensions Lynn Graves says one thing that resonates with employers and employees is replacement rates. She says that the 8 per cent minimum and a conservative investment strategy when combined with the state pension could give lower paid employees a reasonable replacement rate at retirement, but that does not apply to most other employees.
She says: “Take an average person on a £26,000 salary at 35, with an aspiration to retire at 60. You look at the figures based on 8 per cent, and investment growth of 3 per cent and AMC at 0.5 per cent. It is coming out at an annual pension of around £1,370. If you are on ten grand it might work, but someone on £26,000 will want more.”
Although there is a great deal of focus on charges, she says even halving the AMC has a pretty negligible effect. However increasing contributions to say around 12 per cent with investment growth of around 5 per cent with a little more aggressive investment strategy can make a big difference suggesting her calculations come out around £4,740 a year on retirement – a 256 per cent difference.
“That is where the nub of it is from our perspective. If you can get people more engaged and increase average contributions with a more appropriate investment strategy, that considers their attitudes to risk, then you can achieve a better result at retirement. That is the story providers and intermediaries can tell in terms of the value they can add to that process.”
Pension Management Institute technical consultant Tim Middleton says when it comes to advisers justifying other strategies other than Nest the emphasis should be on the performance of the default fund.
He says: “Advisers and providers need to focus on how good that fund is, in terms of bangs per buck, to check it is value for money including considering the trade-off between investment performance and competitive charging. There also has to be a good de-risking strategy. We have seen a move away from traditional mechanical life-styling and more emphasis on time-dated funds.”
“Advisers can provide value by providing an on-going monitoring service so they are accessing quality and if a default fund stops being value for money they can arrange for it to be changed.”
Middleton says the second big area of emphasis for advisers must be on communications. “Getting people engaged in their retirement savings is much more important than having the whole thing chug along on its own. If you have a situation in which people are enrolled by default but actively take control over what their pension savings are, that is a desirable outcome.”
Syndaxi Financial Planning’s managing director Robert Reid believes the Government might need to look at adjusting capital allowances incentivising better communications with employees.
He also says Nest will be avoided by most in the industry, with good justification.
He says: “The market is not going to recommend Nest, given the fact that Nest doesn’t even want to risk-rate people. I would argue strongly against it. If you are a young person the best advantage is the fact you are young. You have got tons of time so you take a reasonable risk to build up the best possible pot.”
Reid says he fears that advisers may also need to actively protect against comparisons with the state scheme.
“We may be looking at an RU64 situation. I think you might get measured against Nest, so advisers are going to have sell something superior to Nest and that may mean with more contributions to protect themselves,” he says.
Independent pension consultant Rachel Vahey says that advisers should be actively encouraging employers to pay more.
“Advisers can help show employers that offering more than 8 per cent can give them a competitive advantage in the marketplace, especially as pensions will become higher profile and might even become more of a general talking point. Employers may want to make their higher contributions dependent upon employees also contributing higher amounts,” she says.
Middleton says there has been far too much emphasis on getting cheap funds and not getting the performance right. “The emphasis should be on value for money. If people are paying more in charges, it is not exactly a problem provided there is an improved investment performance to pay for it.”
Scottish Widows’ own focus groups involving employers suggest that it is the culture and attitude towards pensions and benefits generally rather than size of employer that determines how many employers approach the reform.
But Graves expects a lot of segmentation even from those employers which initially wanted one scheme. “Increasingly we are seeing that for some elements of the workforce the minimum may be fine, but for the majority there is a desire to provide something that is over and above that minimum provision and segmentation is coming to the fore.”
Pitmans Trustees client services director Graham Neff says many employers’ decisions will influenced by how much control they want to have over the structure. However, he warns that many existing arrangements will need to be adapted. For example some employers in long established insured schemes may take it for granted that life offices will help them meet all requirements but that it is important to put pressure on insurers.
“Sometimes there is a false comfort taken by clients if they are in insured schemes, they think they will be covered on everything cradle to grave, including actuarial and admin. Sometimes you really have to push the life office.”
He believes that under auto-enrolment, life-styling represents a big factor in the choice of Nest or not, while cost is not as clear cut as many may believe.
“I think that one thing that generates demarcation is lifestyling. You should have a large age range in most schemes. The investment profile for a 50-year-old is not the same as for a 25-year-old. One of the reasons driving people to go self-administered is retaining control over how the scheme looks. Lifestyling is part of that process.”
“It would be remiss of people not to take charging into account. Nest is competitive but you can get good AMCs on the insured market, and other employers will pay the cost of running the scheme in a trust arrangement without any diminution on accrued rights which is a stronger position with regard to Nest.”
However he says that it may be a few years before proper comparisons can be made in terms of admin and indeed performance. Were default funds to lag Nest on performance, they would come under pressure to adjust things.
Richard Jacobs Pension and Trustee Services managing director Richard Jacobs is seeing a big difference between existing and new clients.
“With most existing arrangements, I am pleased to say, we have not had anybody dumb down. We are generally looking to broaden eligibility. We always try and go for full eligibility.” He has just issued his fee structures including charging a fee for helping set up a Nest scheme and believes that these new clients go for the minimum compliance. He is also helping a new client convert an existing arrangement to Nest, where an existing EB consultant was not interested in helping.
While he aims not to be biased about any the options, he does warn clients about the fact that Government backed schemes and IT projects have not necessarily worked in the past. He says many entrepreneurial clients are resistant anyway and where they sit on other boards can have an influence beyond their own businesses.
But what about justifying adviser charges post 2013? Deloitte RDR lead partner Andrew Power says: “Definitely advisers’ value added will be in terms of saying, I can offer you a much more sophisticated investment choice, not necessarily thousands of funds but tailored to your employees, perhaps a Sipp for corporate executives, a regular GPP for most, and perhaps Nest or Now Pensions for part-timers. We’ll take the hassle away and make sure you are compliant and give you choice where you need choice and control cost where cost control is important.”
In terms of payments for schemes set up post 2013, McLoughlin says: “We are beginning to talk about daily fees, on-going fees and servicing fees, but it is difficult to quantify. We will offer multiple services. But the problem is everyone is seeing this as a tax and at the same time they are seeing they need to pay us a fee.”
On the other hand, he says the sheer scale of the task could be to advisers’ advantage. “Some employers have said, we are going to have to pay someone say £30,000 a year, so we may as well pay you the fee instead.”
One piece of good news however is that clarification from the Department for Work and Pensions suggests that consultancy charges can be levied on the minimum eight per cent.
Aegon head of regulatory strategy Steven Cameron says: “The latest RDR Newsletter from the FSA created confusion over how the rules on consultancy charging interact with DWP requirements for schemes used for automatic enrolment. It suggested that the contribution net of consultancy charging had to be above the 8 per cent minimum contribution.” Cameron says the Department for Work and Pensions has since confirmed the following –
If an employer is paying consultancy charging to an adviser before the contributions are made to the scheme, then the contribution that actually goes into the scheme must be at least 8 per cent.
If, however, 8 per cent is being paid in, the DWP rules allow charges to be deducted thereafter – and this includes consultancy charging.
He adds: “This is a big relief. Any suggestion that the second route was only allowed if at least 8 per cent were actually left would have made consultancy charging in auto-enrolment schemes unworkable. This in turn would have put off many employers from seeking advice. Aegon believes all parties benefit from employers seeking advice – employers can be assured they are meeting their legal obligations and are selecting a scheme that best meets the needs of their workforce. Employees benefit from that tailored scheme and the Government benefits as their pension reforms are more likely to be effective.”