Earlier this month, the government announced the intended charges for the National Employment Savings Trust (NEST).
This may have passed many readers by, as NEST is itself a new name for the pension scheme that many more of you know as either Personal Accounts, or the National Savings Pension Scheme (NPSS). For those that are confused, it's worth pointing out that all three of these names relate to exactly the same one-size-fits-nobody pension scheme.
What is NEST?
NEST is the suggested solution to the pensions savings gap in the UK. All employees, with a few exceptions, will be automatically enrolled into a pension scheme by their employer and will also benefit from a company pension contribution. The scheme that an employee is enrolled into will depend on whether the employer offers a 'qualifying' (passing certain minimum standards) pension scheme. If they don't, then enrolment will be into NEST. The actual enrolment dates will vary for employers (largely based on company size), with most medium-sized employers enrolling employees somewhere around 2013-14.
Ever since the legislation was first suggested there has been concern about what level of charges would be appropriate for NEST. Why? Well, if the charging structure is too low, this has the potential to damage otherwise good existing company-supported pension schemes. Such was the concern that the government undertook a charging consultation to make sure they came up with the right answer. So what is the result, and what does it mean to employers?
In simple terms, there are two charges that are likely to be levied against a NEST saver:
- An annual management charge (AMC) of 0.3%. This will be deducted from the entire fund value each year.
- An allocation charge of 2%. This will be taken off each payment made to NEST, so a £100 payment would only have £98 allocated to investment.
The effect of these two charges together is estimated (by the Personal Accounts Delivery Authority) to be 0.5%. But even they accept this will vary according to the each individual's age, and the duration of their payment term.
Why two charges?
You may be wondering why we have two charges at all. After all, stakeholder pensions only have one charge. The main reason is that the government has always pledged that NEST would not cost the public purse anything, but still wanted a very low charge. Unfortunately, the two aspirations are just not compatible. A charge of 0.3% would not produce enough income, at least in the early years, to fund the administration costs of running NEST.
The government has therefore offered to provide a loan to fund the setting up and early years of NEST (the details of the loan are undisclosed), and it is suggested that the allocation charge is there to help pay back the loan quickly. It is also stated that the intention is to remove the allocation charge at some point (again undisclosed) in the future.
So what now for employers?
Having an indication of the charges finally allows employers to take an active look at their existing schemes to establish how this compares with the proposed NEST scheme. NEST will be an improvement for some employers, but many others will still strive for the flexibility and added features of a qualifying scheme.
Five things employers should consider when reviewing existing schemes:
- Current scheme charges: Employers should review existing schemes to establish what charges are currently levied. If the resultant charge is significant more than the suggested 0.5% AMC applicable to NEST, they may wish to consider reducing this charge further. Options include removing (or changing the shape of) commission payments, reviewing the provider or introducing a charge that is lower for current members of the scheme.
- Workforce profile: It seems likely that the proposed NEST charging structure will significantly disadvantage employees who are only in schemes for short periods of time, or are closer to retirement. If a large number of your employees fall into this category, you may not be doing them any favours by only offering the NEST option.
- Flexibility: NEST represents a fairly rigid framework, so has significant limitations, including a complex definition of earnings, relatively low maximum contribution limits, and a suggested embargo on transfers until 2017. Alternatively, a qualifying company scheme can be established to provide a much more relevant scheme to both employer and employee.
- Justifying higher charges: Even if your qualifying company scheme has higher charges than NEST, there may be valid reasons for this. The availability of advice to scheme members, fund choice, salary sacrifice and all-round flexibility can, and in many cases will, offset the additional charge.
- Return on investment: NEST is a cost to employers, with zero return on their investment (which sounds a lot like a tax from the employer's perspective). A good company scheme can be used as a recruitment and retention and/or tax planning tool, or to minimise the employer's workload. These are important considerations for an employer funding a pension scheme.
Steve Herbert is head of benefits strategy at Origen