The fault line below the UK pension system

In a recent report in the UK Pensions Framework series, the Pensions Policy Institute described renting in retirement as “the fault line below the UK pension system”. But why should we be so worried about renting in retirement, what threats does it signal for the future of the traditional UK retirement model, and what other risks might be lying beneath the surface?

A fault line is described as an area of weakness in a system or process that may not be obvious, and is likely to lead to problems or failure.

In the UK pension system, the notion of financial security in retirement is predicated on several assumptions. One of these is that people will reach later life without the burden of expensive housing costs.

Generally, this means either owning your own property, or living in social housing. But with 78% of today’s pensioners living in their own home, along with 15% in social housing and just 6% renting privately, it’s not obvious that there is a problem.

By 2041 however, the number of pensioner households in the private rental sector could more than treble to 1.7 million or one in six, from around 500,000 today. The changes broadly reflect the differences in housing tenure between households who are retired today, and those who will retire over the next twenty years.

The differences themselves are explained by sharp falls in home ownership among working age groups and an acute shortage of social housing. If past trends are a barometer of future trends however, the likelihood of moving between tenures after the age of 45 is very low, making it almost inevitable that more households will face higher housing costs and insecure tenure through later life.

The problem is that only those with the highest income will have the means to pay for it. In part, this is because most renters have relatively low income and in part, because they never planned to rent through retirement. As a result, more than a million households are at risk of a considerable fall in income, a drop in living standards, or greater dependency on income-related benefits when they retire because of where they live. From an individual perspective, it would not be unreasonable to describe this impact as potentially seismic.

But if there is one hidden assumption or fault line below the UK pension system, could there be more that might not be obvious? The research suggests there could. Is housing tenure the only difference between pensioners of today and pensioners of tomorrow? The research suggests it is not.

From a household perspective, more adults aged 45-64 live alone today than adults of the same age twenty years ago, yet adults who live alone are especially vulnerable to poor outcomes in retirement. They are also more likely to rent privately than couples, meaning that they would need to save considerably more than the default contribution rate if they are to cover the extra costs they might face in later life.

Of those who live alone, more are separated as opposed to divorced than twenty years ago, reflecting long-term falls in marriage rates and the importance of policies that can help to determine how wealth is shared when couples part ways.

From a wealth perspective, low-income households are much more likely to have some private pension saving today than those of the same age twenty years ago thanks to Automatic Enrolment, yet pension savings are included in eligibility criteria for means-tested pensioner benefits.

As the number of low-income families living in the private rented sector through retirement looks set to increase, revisiting the relationship between pensions and benefits, specifically housing benefit, will be an important factor in supporting living standards through later life.

From a work perspective, more people are working in non-standard, self-employed, part-time and flexible roles today than twenty years ago, yet default contribution rates are based on the assumption of continuous employment along with a linear increase in salary and pension saving.

As long as engagement with long-term saving remains low and the emphasis on inertia-based policies remains high however, this means that anyone who deviates far from expected norms is at risk of under-saving unless they adjust their contributions accordingly.

Of course, there will also be similarities between pensioners of today and those of tomorrow which, like the differences, could have a cumulative impact on financial security in retirement. If there is one message that stands out from this report however, it is that we cannot assume that pensioners of tomorrow will follow the same norms as pensioners of today.

By looking for fault lines early, however, we can develop policies that better reflect the increasingly individualised nature of retirement and reduce the risk that fault lines produce tremors in the UK pension system.

Anna Brain is a research associate at the Pensions Policy Institute.