Hymans Robertson calls for AE credits to tackle gender gap

The gender pensions gap refers to the difference in retirement income between men and women. Though there is no official measure of it, the trade union Prospect has suggested — in evidence to the Work and Pensions Committee’s saving for later life inquiry — that it is larger than the so-called gender pay gap, which refers to the difference in earnings between the genders.

Prospect previously suggested in a 2020 report that the gender pensions gap between men and women in 2018-19 was 40.3 per cent.

This ‘AE credit’ approach is analogous to state pension credits and reflects the fact that individuals in these situations – eg, caring for children and/or elderly relatives – are adding value to society

Chris Noon, Hymans Robertson

A House of Commons Library briefing note on the gender pensions gap states that it is larger with respect to private pensions than the state pension.

It highlights three main causes: labour market factors, with women much more likely to spend time out of the workforce or in part-time work, and so paying either nothing into private pensions during this period or less than men; demographic differences, with women generally living longer; and the design of pension systems like AE, which “widens the gap between lower and higher earners in retirement”.

The briefing note goes on to mention three possible reforms designed to tackle the pensions gap, including the provision of affordable childcare, making pension rights a compulsory part of divorce proceedings, and reducing the earnings trigger under AE, which tends to exclude more women than men.

Hymans Robertson, however, is calling for a more drastic measure: the introduction of state AE credits to be paid during career breaks, alongside a substantial reduction in the AE earnings threshold and removing the offset in qualifying earnings from the first £1.

In an open letter to the Work and Pensions Committee, Hymans Robertson partner Chris Noon argued that addressing the shortcomings in AE “will help to significantly close the gender pensions gap”.

State AE credits: How would they work?

With respect to state AE credits, he argued that these should operate in a similar way as the state pension credits the government already pays, being made annually on a notional earnings level and targeted at women taking career breaks.

“This ‘AE credit’ approach is analogous to state pension credits and reflects the fact that individuals in these situations — eg, caring for children and/or elderly relatives — are adding value to society,” he explained.

In terms of how the notional earnings level would work in practice, Noon added: “For example, if notional earnings were set at £16,240, the government would pay an AE contribution of around £800 a year — [ie, 8 per cent x (£16,240 – £6,240)].”

He acknowledged that this would represent a “significant cost” to the government, but argued that time away from work is the biggest contributor to the size of the gender pension gap and needs to be addressed”.

Pensions Expert queried just how expensive this proposal could be, and was told that a Pensions Policy Institute report from 2019 estimated that there are 1.5mn women with dependent children or caring for elderly parents who miss out on AE pension contributions. 

Thus, if the AE credit was based on notional earnings of £10,000 (the current AE threshold), this would give an AE credit of around £300. 

“For 1.5mn women, this would equate to a cost of £450mn a year, or around 1.1 per cent of the current government spend on pensions tax and national insurance relief. If the AE credit was £800 [as in our illustration], the comparable cost for the 1.5mn women would be £1.2bn a year, or around 2.8 per cent of the current government spend on pensions tax and national insurance relief,” Hymans Robertson said.

LCP partner Steve Webb told Pensions Expert he was “very sympathetic in principle” to the proposal.

“The key point for me is that the government explicitly expects income in retirement to come from a combination of state pensions and private pensions, with each playing its part. Where people are unable to contribute into a state pension for a good reason — such as spending time as a carer or bringing up young children — we as a society award them credits towards their state pension because we think they shouldn’t suffer in retirement when they are playing such an important role,” he explained. 

“But these credits only cover one part of people’s total retirement income. Someone who spends a significant chunk of their working life out of paid work may have their state pension protected but could end up with a far lower private pension, even ignoring the fact that on returning to work their earnings are likely to be lower than they would have been.   

“There is a risk that these years of raising a family become gaps in people’s private pension record and that this shortfall disproportionately affects women.”

He said that the design of any system of credits “would need to consider a range of issues, such as whether it would apply when people are in receipt of paid leave, whether it would be open-ended or time-limited, and what would be an affordable rate of credit — but the principle has to be right, in my view”.

Further reforms needed

Besides AE credits, Noon also argued that the £10,000 earnings threshold disproportionately impacts part-time workers, who are in turn disproportionately women, while not calculating pension contributions from the first £1 “has a disproportionate impact on the savings of lower-paid individuals”.

Of the latter, he said it was “difficult to understand the rationale for having an offset other than to mitigate the cost of contributions to individuals and employers, and the cost of tax-relief to the government”. 

“Employees can ultimately opt out if affordability is an issue,” Noon suggested.

On the former, he said the AE earnings threshold should be “substantially reduced” in order to bring more people within scope of AE, as the existing opt-in mechanism “is too weak a mechanism to support retirement saving”.

He highlighted findings from the House of Commons Library’s ‘Gender pensions gap’ report suggesting that lowering the threshold from £10,000 to £5,000 could bring more than 800,000 people into AE, of which 600,000 would be women.

“The original rationale for introducing an earnings threshold was to ensure that individuals benefited from any pension savings and that these savings didn’t result in a reduction in other means-tested benefits. The introduction of the new state pension in 2015 has substantially reduced this risk,” Noon said.

The industry has long been keen on AE reform, and has several times called on the government to adopt the proposals of the 2017 review, which recommended — among other things — that workers should be auto-enrolled from the age of 18 as opposed to the current age of 22, and that the low-earnings threshold should be abolished.

Despite the broad consensus behind the proposals, AE reform was not included in the Queen’s speech in May, and pensions minister Guy Opperman has refused to set a timetable for it. The government’s policy remains that the review’s proposals will be implemented at some point towards the middle of the decade.

David Robbins, senior consultant at Willis Towers Watson, told Pensions Expert that there were some objections to reducing the earnings threshold, not least that it would “default some low-paid, part-time workers into forgoing spending power today in order to increase it at a time when they expect their income to be higher. This runs counter to the usual logic for retirement saving — to smooth income across a lifecycle”.

He explained: “That objection will not always hold up at the household level: many low-paid, part-time workers will have partners who work more hours for better pay, so for the couple additional saving can still soften an expected drop in income at retirement. However, factors such as the generosity of matching employer contributions and gains from tax deferral may affect which partner is most incentivised to save more.

“A second objection to removing the earnings trigger is that more people would be contributing small amounts. As some administration costs are fixed regardless of account value, creating more small pots puts upwards pressure on charges for other savers — particularly if policy moves in the direction of a single charge structure based on fund value, a development which the pensions minister regards as inevitable.” 

On the question of contributions form the first £1 of earnings, Robbins said that, though many in pensions would like to see it happen, the government would be “nervous” of any proposal that puts “downwards pressure” on gross pay, and reduces how much of it “ends up in people’s pockets”, especially during a cost of living crisis.