Ian McKenna: Keeping pace with the auto-enrol evolution

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The agenda around automatic enrolment will continue to evolve this year. Large numbers of smaller advisers will find their small business clients pulling them into the auto-enrolment space when they realise they need help and guidance. At the other end of the spectrum, large employee benefits and corporate advisers will have considerable opportunities to help clients where the original auto-enrolment process was not as smooth as expected. Not all pension providers managed this well first time around.

The issues considered important in provider selection seem to be growing, which puts pressure on them to innovate more and make sure they are not caught out by missing key capabilities. This is increasingly leading to a workplace pensions market where selecting a scheme based on a low annual management charge alone looks like a false economy for both employer and member.

With the Government appearing to walk away from pot follows member and the significant costs of delivering individual member advice, bulk transfer arrangements are increasingly being seen as crucial for any provider looking to attract employers.

Equally, the issue of net pay schemes is highlighting that even the lowest of annual management charges cannot make up for losing tax relief.

Where pension schemes operate under a net pay arrangement, rather than offering tax relief at source, the contributions are deducted from gross earnings but are not “grossed up” to receive the additional 20 per cent tax relief.

In simple terms, for every £1,000 salary at a 1 per cent contribution level the member would have £8 deducted from net pay and paid to the pension provider, and under a relief at source arrangement they would then claim an additional £2 from HM Revenue and Customs, so that a total of £10 is paid into their pot. Where the pension provider operates a net pay arrangement the same employee would have £10 deducted from gross pay and paid to the pension provider.

Admittedly, this issue is only affecting a relatively small number of employees: those with income at or above the £10,000 auto-enrolment threshold and below the £10,600 nil rate tax band. At most they might expect to lose out on £120 in pension contributions but these are the people who most need every penny of savings they can get.

What is more, a range of different circumstances are likely to exacerbate the problem further and mean more employees will be caught in the trap. For example, when contribution levels increase, the loss will increase proportionally. But even before that the personal allowance is due to increase to £11,000 in the next tax year. The Conservatives then have a manifesto commitment to increase this to £12,500 by 2020.

Some of those organisations whose current technology cannot operate relief at source are arguing HMRC could carry out a one-off exercise to correct the effect each year. This sounds like a nice idea but given the extent of Government cutbacks, how likely is it that it will see this as a good way to spend money? Latest estimates suggest this could affect 180,000 employees. Against this background does any adviser want to recommend a workplace pension where some of the lowest paid employees do not get the full benefits they should?

The constant evolution of the criteria by which auto-enrolment propositions should be measured makes it important for all pension providers to continually grow the technology capabilities of both contract and trust-based schemes. At the same time, advisers need to ensure they are keeping themselves up to date in terms of understanding which pension providers have the most effective propositions.

The net pay issue highlights why choosing the right pension scheme for a company should be about much more than just a low annual management charge. Quality will be worth paying for in the long run but advisers and pension providers need clear ways of demonstrating how to measure it.

Ian McKenna is director of the Finance & Technology Research Centre