Contributions will need to exceed the legislative minimum to achieve a suitable retirement, but that does not mean it should be raised, argues The People's Pension Jamie Fiveash in this Informed Comment.
The current minimum is 2 per cent, rising to 5 per cent from October 2017 and then 8 per cent from October 2018.
Sticking to the lower limits is not necessarily going to lead to a comfortable retirement
The first two stages were only meant to serve as a transition phase between companies’ individual staging dates and full implementation.
This approach helps employers, employees, the adviser community and even government and regulators to become familiar with the operation of auto-enrolment – as does the phased nature of staging dates for differently sized companies.
What is more, it is hoped a gradual increase will help minimise opt-out rates because employees will be less likely to opt out if the initial contribution starts low and gradually increases.
Certainly the early results, with industry-wide opt-out rates reported at around 10 per cent, would suggest these were all sensible policy decisions.
However, as we all know, auto-enrolment is built on inertia. In the mindset of the employee, their pension is now being taken care of. Herein lies the risk.
What members will get
Based on standard assumptions a 35-year-old, earning the average wage of £26,000 a year, who follows the minimum contribution levels for the rest of their working life, will end up with an annual pension of around £5,500.
Of course there may be some state entitlement on top of this, but this is likely to fall some way short of providing a living wage in retirement.
While contribution levels might need to rise further to guarantee meaningful retirement income for some UK workers, this does not necessarily require continual government intervention.
Once funds start to build, the hope is that employees may begin to engage and take responsibility.
For many years, pension experts, personal finance commentators and advisers have suggested a good rule of thumb is to pay in half your age as a percentage of income when you first start a pension – and to pay that percentage every year until retirement.
Hence, if you are 20 when you first start paying into a pension you should invest at least 10 per cent of your income, if age 30 it is 15 per cent and if age 40, 20 per cent, and so on.
What this simple but effective approach also highlights is the importance of starting early. This applies to auto-enrolment just as it does to any other form of pension saving.
However, the pressures of student loans, property, marriage, children and divorce make pensions naturally fall down the priority list. If we are serious about encouraging the younger generation to start saving for retirement, then we need to think more innovatively about the product.
Getting the message out
In August a Baring Asset Management survey revealed 5m Britons are relying on property to provide their main source of income in retirement.
There are obvious synergies between pensions and property, which could be harnessed to make saving and borrowing work better together.
Faced with the current system employers and their advisers have a very important role to play, not just in meeting the minimum employer contributions or encouraging higher payments where possible, but looking at some of the non-financial steps they could take to improve outcomes for their employees.
For example, research published by the London School of Economics in July demonstrated that actively making employees aware of the benefits of saving for their futures – as well as the value of employers’ contributions – makes a tangible difference to the amounts being saved by employees.
Our scheme offers a free toolkit containing a suite of communications including brochures, posters, payslip messages and videos.
These communications have made a tangible difference in ensuring employees understand what auto-enrolment is about and why they should participate.
The next challenge is to go a step further and encourage greater levels of pension contributions.
While participation in auto-enrolment is a good thing and contributing the legal minimum will help boost retirement income, sticking to the lower limits is not necessarily going to lead to a comfortable retirement and must not encourage a false sense of security.
We must all save as much as we can reasonably afford.
Jamie Fiveash is director of strategic development at B&CE, which provides The People’s Pension
