Size may not be everything, but when it comes to pensions it certainly helps. But whatever the total of our savings, there is increasing concern that our money is fragmented into multiple small pots that are getting “lost” in the machinery.
“Small pots are set to become a major obstacle for the pensions industry,” says Morten Nilsson, chief executive of NOW: Pensions, a pensions provider for employers. “Consumers will be incurring unnecessarily high charges and won’t get as good an annuity rate as they would if they had one pot of money; dormant pots will be forgotten.
“For providers the costs of administering small pots can be highly unprofitable – our view is that pots of about £10,000 are [needed to be] commercially viable.”
Auto-enrolment will magnify the problem. The Department for Work and Pensions (DWP) estimates that we have on average 11 jobs during our working life; keeping tabs on 11 different pots is beyond most of us. One in six of us have no idea where our pension is saved and the DWP estimated that the total value of unclaimed pensions in 2010 was £3 billion.
Professor David Blake, director of the Pensions Institute at Cass Business School, says it is a situation that pension providers relish. “When people leave a pot behind, they may get charged a higher rate, so providers want to put a limit on the size of pots that can be transferred. But that is not in the interests of plan members.”
If you auto-transfer small pots, you need to be sure the new scheme has low charges and good governance
Consolidating pots is also an administrative nightmare for individuals and, even if you can face the paper chase, it can be tricky to work out what charges you face if you transfer your money.
“The industry makes it hard,” says Tom McPhail, head of pensions research at Hargreaves Lansdown, a financial adviser and fund provider. “The government should be leaning on pension providers to simplify, and make pensions less complicated and more accessible.”
Australia’s pensions industry has highlighted the perils of having no consolidation process for small pots, says Mr Nilsson. “There are 28 million superannuation accounts in the country and 6.9 million of these accounts are inactive. There’s about AUS$18 billion forgotten and untraceable savings.”
So what can be done? There are three options: the establishment of aggregators or “supertrusts” into which small pots are kicked every time an individual changes jobs; the government’s current favourite, which is the “pot follows member” option, when employer schemes would have to accept transfers from past employment; and an industry-wide programme to simplify pensions and make it easier to move money, which would put the onus squarely on the individual to look after their own savings.
Richard Wilson, senior policy adviser at the National Association of Pension Funds, the trade body for the pensions industry, believes the UK doesn’t have the infrastructure to cope with the pot-follows-member option. “There is a huge amount of administration involved in pushing pots around and the risk of something going wrong is much higher,” he says. “We have been calling for an aggregated system, but there should be some kind of standards. If you auto-transfer small pots, you need to be sure the new scheme has low charges and good governance.”
The industry does not have a good track record when it comes to such matters – schemes set up in the 1980s and 1990s could well be charging more than the returns on investment.
Whatever the answer, there is a need for greater engagement between the public and their pensions, says Mr McPhail. “The single thing that will make the difference to your retirement is how much money you put in and you need to get people engaged to do that,” he says.
With evidence that people start to take an interest when their pot equals their annual salary, consolidation has to be a first step along that road. But auto-enrolment is a long way from the final answer.
“Most people will be serial defaulters,” says Professor Blake. “They will be enrolled in the scheme by default, will pay in the default contribution rate and will invest in the default fund. They will have no experience of making choices – but then at retirement will be expected to make a series of choices about annuities.”
And that’s a whole other story.