Auto-enrolment is a much-celebrated success, with around 10 million workers now belonging to pension schemes chosen by their employers.
Unfortunately, however, the complexities of pension administration have created a major problem that has the potential to undermine confidence in it.
The last thing we need is another pensions scandal splashed across the front pages.
Pension providers administer tax relief for their customers in two different ways. The relief-at-source method automatically claims basic rate tax relief (equivalent to 25 per cent of each worker’s contribution) from HM Revenue & Customs, adding it to the pension pot. The alternative net pay method adjusts for tax relief before contributions are paid, whether basic or higher rate.
Providers prefer the latter, as higher earners pay more into the scheme, which generates more fees. It also saves higher-paid members having to reclaim higher rate relief from HMRC.
However, net pay severely disadvantages all workers earning between £10,000 and the £11,850 personal tax threshold, forcing them to pay 25 per cent more for their pensions, as they are denied basic rate relief they would have in a relief-at-source scheme.
This is not a small problem. Most auto-enrolment schemes use net pay, so well over a million of the lowest-paid workers – mostly women – are losing out.
As contributions double again next April and the personal tax threshold rises to £12,500, the number involved will grow significantly.
Most low earners affected by this have no idea they are paying so much more than they should.
But even if they did, they could not recover the money. The employer chooses the pension scheme and Inland Revenue rules do not allow the tax relief to be reclaimed. It seems impossible to argue these workers are being treated fairly.
The government admits concerns but refuses to address the issue. Rather than taking responsibility, everyone claims someone else should sort it out.
The Treasury says The Pensions Regulator is responsible for auto-enrolment. TPR says the Treasury is responsible for tax relief. The Department for Work and Pensions says employers are responsible for choosing the scheme. Providers (apart from the worthy exception of Now: Pensions) have ducked the issue.
One has to ask what responsibility providers should have to avoid overcharging customers like this and also where trustees’ fiduciary responsibility lies. Net pay schemes are not suitable for these low earners. Unless they receive the money they would otherwise overpay (perhaps from providers or employers), they should be enrolled into another scheme.
It may add some complexity but automatic integration between employers and pension providers can allow low earners to be enrolled into relief-at-source schemes (such as Nest, The People’s Pension or one of the few insurance company arrangements), while others use a net pay one with the same provider or elsewhere.
Sooner or later, these low earners will discover they have paid 25 per cent more for their pensions than they needed to. They may then claim they were treated unfairly.
A growing group of industry professionals is working to resolve this problem. I hope advisers will support us and force the government, providers, trustees and the regulator to address it urgently.
Ros Altmann is former pensions minister