Fairness is hard to pin down. Is it fair if everyone pays charges that meet the costs of running their account? Those with small funds will lose a very high proportion in charges which is socially unacceptable.
Is it fair if everyone pays the same percentage of their final fund through charges? This penalises those who are in the scheme for a short time and who gain little benefit from investment management.
Is it fair if the percentage reduction in the annual return is the same for each member? This makes long-term members subsidise short-term members. A fair outcome probably needs to come close to all three definitions without meeting any exactly.
For charges to be attractive, Pada believes they must be simple and look low. At first glance, 0.5 per cent of the fund each year looks lower and therefore more attractive than 5 per cent of each contribution. Either option is simpler than a charging structure with more than one element. The difference that the charging structure makes to the attractiveness of personal accounts is debatable but Pada research suggests it could affect take-up rates.
Commercial viability is key and the industry has pushed very hard for no Government subsidy of personal accounts. It is obvious that high costs will be involved in developing the infrastructure and setting up individual accounts and it will take a considerable time before these costs can be met out of charges but there must be assurance that personal accounts will be self-supporting and the sooner costs can be met from charges, the more likely that is.
Pada has come down to two charging structures from the four originally suggested. Either there will be a single annual management charge, similar to stakeholder, or an AMC plus a percentage charge on each contribution.
The simple AMC meets the attractiveness test although when it was fully explained to consumers, they tended to like it less. It also has political attractions as long as it is not too high. Anything above 0.5 per cent could be problematic for the Government and make it accept the political embarrassment of backtracking on the structure it imposed for stakeholder.
The strongest argument for combining an AMC with a contribution charge is that this matches the financial needs of the scheme better, initially and longer term. It also appears better able to deliver fairness between long and short-term members.
Which will prevail? It may depend on how acceptable the combination charge is politically and Pada’s priority must be to make the finances stack up.
The issue of Sipp charges seems a million miles removed from this. They are at least notionally unbundled and broadly reflect the cost of each arrangement. From that viewpoint, they can be considered fair. We can also assume that providers will set charges at a commercially viable level. Yet attractiveness of charges is trickier for Sipps, partly because there are many ways of structuring charges but also because they tend to be very complex. Many appear attractive because of low headline admin charges but in practice part of the investment charge finds its way back to the administrator. It would be a desirable outcome of the Sipp review if there was a requirement to differentiate between admin and investment charges as well as those for advice.
The bigger issue is how providers can show that their charges are fair and compare favourably with stakeholder, taking into account the services offered. This may be impossible as there is no way to compare outcomes or the overall effect of charges, yet there is an overwhelming case for transparency over the effect of charges and it is hard to see how consumers can understand if a transfer represents good value without some way to compare charges.
Ian Naismith is head of pensions market development at Scottish Widows