Automatic Enrolment (Earnings Trigger and Qualifying Earnings Band) Order 2012

Baroness Drake Excerpts

Tuesday 22nd May 2012 Grand Committee

I commend this instrument to the Committee.

[Baroness Drake]

My Lords, starting positively, it is most welcome that auto-enrolment will really commence in October 2012, and this order is obviously an essential part of getting to that position. The pay reference periods in the draft order and the corresponding earnings values in respect of the relevant sections of the Pensions Act 2008 are sensible. We can understand why, for example, a daily pay reference period could deliver results that were not the policy intent.

It is also pleasing that the Government have held to the definition of qualifying earnings that reflects the common pay components that make up the pay packet. Aligning auto-enrolment triggers and thresholds with tax and national insurance thresholds in the interests of simplicity for employers wherever possible would seem a sensible approach—but only to the point where the pursuit of simplicity does not undermine desirable outcomes, particularly for women.

Aligning the upper limit of the qualifying band of earnings with the NI upper earnings limit provides simplicity, complements the policy intention and, by extending the range of earnings, increases savings a little. Similarly, setting the lower limit for the qualifying earnings band to the NI lower earnings limit provides simplicity and maintains contribution levels when auto-enrolment is triggered. That is the positive.

However, our concern is that the level of earnings that triggers the automatic enrolment of a worker is set for 2012-13 at £8,105, the PAYE threshold. This further rise in the trigger excludes yet more women, and places simplicity above enabling millions of women to increase their savings pot. We remain concerned for the reasons we have rehearsed previously: raising the earnings trigger has a disproportionate impact on women and the Government are repeating the errors of the past in designing a second-tier pension system that does not work for the life pattern of many women. In 10 years’ time, the error will be obvious, particularly to women themselves. I have no doubt that action will be taken to amend it, but by then thousands of women will have lost out unnecessarily.

The Government’s response to the automatic enrolment earnings threshold consultation reports that the main focus of consumer organisations was on equality issues, particularly the impact of higher thresholds on low-paid workers, the majority of whom are women, but clearly their views are not a dominant influence in setting the trigger. Millions of women have a life pattern in which periods of full-time work are interspersed with significant periods of part-time work when their caring responsibilities are at their greatest.

On the Government’s figures, of the workers eligible for auto-enrolment, two in five—39%—are women. Raising the trigger from £5,035 to £7,475—the 2011-12 PAYE threshold—excluded 600,000 individuals, 78% of them women, most of them part-time, but that decision was made. However, raising it to £8,105 excludes another 75,000 women, on the grounds of simplicity. If, over time, that earnings trigger rises even further in real terms, tracking proposed increases in the tax threshold, the number of women excluded from the benefits of auto-enrolment will grow even more.

The effect of excluding these women is, first, that they may not start to save when the reforms are introduced. Secondly, when they transition from full to part-time jobs they may face increased charges on their pension pot accumulated as a result of becoming an inactive member. Thirdly, ceasing to be auto-enrolled when they become part-time workers could break the persistency of the savings habit they built up when working full-time.

The Government sympathise with the view that only those who benefit from tax relief should be auto-enrolled. This ignores the working of the tax credit system. For example, household income brought to account when calculating universal credit disregards 50% of that income paid in pension contributions. Of course, before the reforms it was 100%. To quote from the Johnson report commissioned by the Government:

“Many or most very low earners are women, who live in households with others with higher earnings and/or receiving working tax credits. These may well be exactly the people who should be automatically enrolled”.

Those excluded women also suffer a loss in lifetime pay, albeit deferred pay, because they do not have access to the employer’s 3%—and for some employers the figure is higher. However, they will still lose out from any lower wage growth that flows from the cost of automatic enrolment.

If policy is predicated on the belief that most people will not begin to save unless the power of inertia is harnessed through auto-enrolment then it cannot be the case that the right of those below the earnings trigger to “opt in” will seriously mitigate the risk that many women will face lower incomes in retirement as a result of the level at which the trigger is put. As to persistent low earners, the argument that they should not save because they get state pension and benefit means yet again that there will be no “asset accumulation strategy” for low earners. If 100% of pension contributions were disregarded for universal credit calculation, this would reduce the risk of a fall in people’s welfare prior to retirement.

Furthermore, if the Government accelerate the move to a single flat-rate pension, depending how that is done, together with the more generous crediting arrangements for carers introduced by the Labour Government, then the incentive to save can increase for significant numbers. As the Johnson review again observes:

“earnings are highly dynamic and there are relatively few people who have low earnings throughout their lives”.

A make-weight argument for the higher earnings trigger is that it reduces the number of small pots of pension saving, which are disproportionately expensive for the insurance industry to administer. But of course that argument is totally contrary to the policy intention. The answer to that problem is the public service obligation of NEST not to increase the numbers of workers excluded from auto-enrolment.

Much is made by large employers—though having read the review, one sees that not many of them directly make submissions—of certainty and business planning from linking the earnings trigger to the PAYE threshold, so setting the direction of travel. In 2012-13 the Government are rolling out to the large employers and are raising the earnings trigger in order to simplify the process. However, these are large firms well versed in dealing with complexity. Surely we should not be trading fairness for women, which they need, for an alleged simplicity which these companies do not require.

Many large employers have already been given the simplifying benefit of an alternative certification test. Many use salary substitution, managing the complexity of employees opting both in and out of salary substitution. They are experienced in deploying often complex measures to manage their pay and tax liabilities and frequently changing tax rules. Do 75,000 more women need to lose the benefit of auto-enrolment to give them the alleged simplicity they seek?

To return to the positive: while we welcome the commencement of the new employer duty, and recognising some of the positives in this order, we remain concerned about the position of many women that is created by raising the earnings trigger.

[Lord German]

My Lords, I recognise in the consultation document and in the response from the Government that three-quarters of the respondents supported the trigger that is now being set by the Government in this legislation. Of course, this is not an exact science; one cannot say that a specific figure is the level at which people will benefit from coming in to automatic enrolment. However, we should recognise that for many low earners, investment in pensions is potentially unsuitable, and that it is not suitable for persistent low earners. I will come back to that point in a moment.

When the Pensions Commission did its initial work, it stated that low earners might aim for a gross replacement rate of 80% or more of their income when they retired. The Johnson review—which I, like the noble Baroness, will quote from—stated:

“This disproportionate impact on women is something we would wish to avoid if we believed that these people would benefit from saving”.

Individuals who are low earners throughout their lifetime will receive a relatively high income—I stress “relatively”—in retirement, without private pension saving. Paul Johnson quotes the example of an individual earning £10,000 a year from the age of 22, who would see a replacement rate of around 97% from the state alone. Therefore, the question is where the target trigger should be set. Surely the objective must be to maximise pensions saving where that saving is valuable and minimise it for people for whom it will not be worth while.

There is no doubt that this will have a disproportionate effect on women, but the question is whether potentially it would not be worth their while to invest in this manner. Would they benefit from the savings? The question that is being asked here is about what the threshold should be and whether it should be somewhere in the region of the figures that Paul Johnson quoted in his review for the Government. Individuals who are low earners throughout their lifetime will receive a relatively similar income without private pension saving. The question is: does the trigger enable people to come back in when their earnings level rises above the tax threshold? The question that the Minister might like to answer is: what will be the procedure for people who have been low earners, who are underneath the trigger, who have not chosen to opt in but who reach that figure to be automatically enrolled? If they are in the category of persons who will occasionally fall back below and then rise above the trigger level, how will their re-enrolment occur? Will there be encouragement, and will they be tracked so that the re-enrolment will occur seamlessly, without them losing out?

The other way in which people’s choices could be made is through opting in. I note that the consultation response from the Government states that people will be encouraged and that employers will be required to pass on information to their workforce. However, there is a difference between passing on information and encouraging people. The difficulty that many employers will have with low earners is in determining whether this is potentially good for them. It is a very difficult judgment to make, given that it may not be the right choice for a person who is a low earner throughout their life but might be for someone who is a low earner now but who has the potential to move back and forth across the trigger line.

--- Later in debate ---

The noble Baroness, Lady Drake, also raised the issue of pots. Clearly that is an issue that we are looking at separately. It is not an easy issue, as we build up these very small pension pots, and I know that it is a matter of concern all around the House. We have been looking at this issue, and we plan to publish a response on that this summer.

[Baroness Drake]

I appreciate that the Government are looking at the whole issue of the transfer of small pots. The point that I sought to concentrate on was that it is very likely that the market will apply a differential charging structure to inactive members and to active contributing members. Even though the Government have taken powers to control that, those powers will not stop differential charging. If a woman is full-time, then takes on a part-time job with another employer and is not auto-enrolled—and so becomes an inactive member—one of the consequences is that the charges on her remaining pot start to rise, because inertia is not turned into a positive. It is that narrow point. I appreciate that the wider review of pension pot transfers is coming up.

[Lord Freud]

I will stand my ground a little bit on this, because these are some of the issues that really come into consideration when we look at the broader issue of pension pots. My colleague Steve Webb has said a few things about this in public, and I know that he is looking in private at this differential charging issue, so it is something that he is considering.

My noble friend Lord German asked a related question about the opt-in/opt-out rates. Those will be monitored on an ongoing basis. He also asked about people coming in and going out as their earnings change, perhaps going from full-time to part-time. These people will continue to make and receive contributions according to the rules of the scheme that they end up going into when they go in, but if earnings dip to the extent that no contributions are due in a particular period, they will restart immediately when their earnings are high enough, so there is no waiting period.

I will now return to two issues to deal with them precisely. I only touched on the differential charging that the noble Baroness was concerned about. We have powers under the 2008 Act to set a cap should charges become inappropriately high. We recently extended those powers to cover deferred members. Therefore, we have all the necessary powers, and my colleague is aware of the issue. We are monitoring the charges with rolling research and will continue to do that as enrolment is brought in.

I will close my answers by doing justice to the point about tax relief made by the noble Lord, Lord McKenzie. We will continue to take that into account. The matter is not entirely straightforward, as we established. At this stage we do not know how many people will get relief at source as opposed to making net pay arrangements. We will keep that matter, too, under review.

This is our first review. It took a major consultation effort to decide on the trigger and the earnings band. We would have preferred to come out with this earlier, and I will try to do better on timing next year because early certainty is important, for employers in particular. It was right to consult this time, and to gather the views of people who will need to make automatic enrolment work in practice: those who will have to administer pension schemes, employers who will have to deal with all the questions from their workers, and people who represent those workers. The one message that we got from all of them was that we should keep this simple. I shall take that to heart for the future. Of course, it chimes with the Government’s Red Tape Challenge.

As I said, we will come back to this in a little less than a year. I know that I look forward to it as much as other noble Lords in the Room. I commend the order to the Committee.