Pension Schemes Bill

Baroness Drake Excerpts

Tuesday 16th December 2014 Lords Chamber

[Baroness Drake (Lab)]

My Lords, I declare my interest as a trustee of Santander and Telefónica pension schemes and a board member of the Pensions Advisory Service and the Pension Quality Mark.

I am extremely concerned about the extent of the new pension freedoms and the speed of their introduction. I think that the Chancellor is rushing his fences. I have two real concerns: the behavioural impact of those freedoms and poor decision-making by the saver. I am now confused as to where the consensus on pensions policy now is. The rush to put the freedoms in place from April 2015 is dominating the debate, overshadowing consideration of their efficiency for the long term. I favour some more freedom, an increase in the trivial commutation level and reducing the proportion of the pension pot that has to be compulsorily annuitised, but the extent of the freedoms unleashed in these Bills will create new problems. There is now a complete separation of tax-advantaged pension saving from any requirement to secure an income stream in retirement. The effect of that decision will be profound.

The Treasury cited Australia and the US as examples where consumers have similar freedoms, but they both have problems. In Australia, few people buy an annuity. The leading accounting body, CPA Australia, found:

“Lump sum superannuation benefits are being treated as a windfall and being used to pay for the lifestyle that’s been lived now instead of being put aside to provide income in retirement”.

As my noble friend Lord Hutton comments, the Murray review into Australia’s financial system found that a quarter of people with a pension pot at age 55 had depleted it by age 70. The complexity is tipping people into cash, and the review now recommends a default back into annuities.

In the US, 51% of the workforce has some form of pension plan, mainly in 401(k) schemes. Thirty-five per cent of those who left jobs in 2013 cashed out their 401(k)s outright. The US Treasury this year said that it will offer a tax break for savers who buy annuities and allow pension schemes to offer long-term deferred annuities as a default. Both those nations are rowing in the opposite direction of the Bills. The Office for Budget Responsibility states that the tax consequences of the reforms are “highly uncertain” because no one knows how many people will spend substantial parts of their pot from next April.

Choice is now extended, but for many millions the biggest challenge remains building an adequate pension pot. The average annuity in 2013 was bought with a fund of just over £35,000; the median was £20,000. How will the reforms help the next generation of savers? The Pensions Minister and the DWP are to be complimented on the rollout of auto-enrolment, but on the default contribution rate of 8% a median earner’s pension pot will still be very modest.

The employer pension contribution had been expected to increase over time, but the new freedoms make that more difficult. The Government have sent out a clear message to the individual—“It’s your pot of cash. You saved it. You spend it as you like”—neglecting the contribution from tax relief and, in most cases, the employer. The now public focus on early access to cash from age 55 contradicts the more important messages of working and saving longer and drawing your pension later. Employers are integral to the success of workplace pensions, and a major influence on the level of contributions, but what is the Government’s message to the employer? “Pension pots are for people to do with as they like; they are no longer reserved for retirement income”. The premise on which employers were compelled into making a pension contribution under auto-enrolment no longer holds. How will that affect employer attitudes? They may be less disposed to increase their contribution and more politically resistant to an increase in the statutory 3%. Will a finance director want to pay more to a worker’s fund so they have freedom to purchase a Lamborghini?

Historically, employer and employee pension contributions were so tax advantaged because they supported a retirement income. I agree with the Pensions Minister that tax relief should be reformed to give a more efficient distribution, but if pension savings policy is now, “Spend it all as you like”, then the fundamental principles of the tax relief will inevitably be revisited. I would not want to see the incentive to save for the long term seriously reduced for the next generation of young savers because successive Chancellors claw back too heavily on tax relief, but I fear that is now where we may be heading. The Institute for Fiscal Studies has already questioned whether the contributions to a DC pension saving should continue to be so tax privileged if annuitisation is voluntary.

The new freedoms bring new risks and complexities and uncertainty as to how the risk of consumer detriment will be mitigated. The Government are dependent on the market to ensure the success of the new freedoms. The Pensions Minister, Steve Webb, has said he will watch the pensions industry “like a hawk”—not a statement of confidence. Antipathy to annuities has been driven by falling annuity rates and the behaviour of providers, who will continue to supply the retirement products—so it is new freedoms, same market.

The new FCA study, which examined how market conditions may evolve from April 2015, found that competition in the retirement income market is not working well for consumers and the introduction of greater choice and potentially more complex products will reduce consumer confidence and weaken the competitive pressures on providers to offer good value. The chair of the FCA in a recent speech made two key comments. He said the increase in regulatory rules has failed to prevent misconduct and does not,

“seem to prevent further problems arising”.

At some point, inevitably, the Government will have to place in statute a clear fiduciary duty on providers and asset managers to put consumers first. Meanwhile, some good providers will want to respond positively to the new freedoms, but how will the market be placed in April 2015? The Legal & General Assurance Society chief executive John Pollock said:

“The fact is we were given hardly any time and then expected to deliver a satisfactory solution”.

Many employers will find engaging with the new freedoms a step too far because they are too complex, too costly and they fear associating with the products and poor decision-making. We may see a greater switch from trust to contract, an accelerated move to default ex-employees out of company schemes and a greater reluctance to fund employee access to guidance and brokering services—employers do not want any liability come-back. Employers are not obliged to provide access to the new freedoms through their schemes and many will not. People will have to embrace the complexity and cost of transferring their savings to get that access. I suggest a further tip into cash.

As to savers, policy now relies on one set of behavioural assumptions when people are saving and another when accessing pensions. It is assumed that workers are prone to procrastination and behavioural biases, which prevent them from making active decisions to save, so they are auto-enrolled and defaulted into an investment fund. However, at the age of 55 they become engaged savers, making active complex choices and informed decisions about their income and risks in retirement. However, as the PPI confirms in its report, Transitions to Retirement, making informed decisions about accessing DC savings was the hardest of all pensions, retirement and other financial decisions.

The Government need to help people to manage these risks. We will have the guidance guarantee, which is welcome, and it needs to be a success. However, some consumer and industry players want the FCA to introduce a second line of defence, requiring providers actively to ask customers whether they have considered the most important risks. We have little clarity on the charges and quality standards on retirement products in future, and the annuity market still urgently has to be tackled.

The Pensions Minister, Steve Webb, and the DWP have been focused—desirably so, and I compliment them—on new approaches to risk sharing, defined ambition and collective DC being their proposition, so it is most surprising that these two Bills are now being run together because one directly undermines the other. The potential for collective DC has changed as a result of the new freedoms. Intergenerational risk sharing between members with the provision of retirement income becomes very difficult if people can crystallise the value of their fund and take their cash from age 55.

As others have said, collective DC schemes are designed to smooth out income. The individual does not have a well defined pot over which they have individual ownership. That the collective DC schemes are not really compatible with the freedoms in the Taxation of Pensions Bill is not just a technical point but a cultural one, too. The freedoms row back to taking cash and seizing the individual while collective DC and defined ambition culturally, emotionally and sentimentally move in favour of sharing risk. It is not a coherent framework.

The Pension Schemes Bill has a significant number of delegated powers, so there is much still to be understood. In order to be sustainable, collective DC needs scale, an assured flow of new members, excellent governance and full transparency. On governance, the Bill is largely silent, yet collective DC and defined ambition can be run by trustees or private providers. The Government have added a clause to enable regulations to impose a duty on managers of non-trust schemes to act in members’ best interests, but it is unclear whether this would place an unequivocal fiduciary duty on private providers. Neither the NAPF nor the ABI detect a current appetite for such schemes, as they confirmed to the Public Bill Committee, so defined ambition, collective DC and any collective risk-sharing future in pension schemes need to be driven if they are to take off. However, we have no visibility as to how the Government will do that. Rather, I fear that the work of the Pensions Minister and the DWP has been undermined by the freedoms that come with the taxation Bill.

--- Later in debate ---

[Lord Newby]

I also pay tribute, very briefly, to my right honourable friend Steve Webb, who, as Minister for Pensions, has taken the lead in driving these and many other pension reforms forward. Many said that a coalition Government would not be able to make long-term reforms of a fundamental nature. Well, when it comes to pensions, whatever you think about them, you cannot claim that the Government have shied away from looking at all the issues. Indeed, they are effecting major changes.

At first sight, you would have thought that there could be no issue about the fact that giving people more freedom to spend their money is a good thing; that is what these Bills do, and therefore there will be unalloyed pleasure at the prospect of doing it. However, as noble Lords have pointed out, there are two challenges with this. First, many individuals either lack the financial literacy to make much sense of their finances, which we know about, or are slothful when it comes to thinking about pensions—which I think the current system encourages in some cases, not least because of the way in which they are treated by their pension providers.

As we know, many pension providers have been untrustworthy in the past, and have misled people rather than encouraged them. In the majority of cases, even now, they provide information to their individual policyholders in a manner that the policyholders cannot understand. Pension providers know jolly well that they cannot understand it and they have almost wilfully refused to make information available in a manner that people can understand. One of the great attractions of what we are doing on the guidance front is that it will require a template to be completed by pension providers about what on earth it is that individual policies amount to.

We have a market that is not working as markets are supposed to work. The purchasers do not have the information that they need and the suppliers very often are not providing products in a way that is fair to the consumer. That is why the whole issue of guidance is at the heart of these Bills and the debate today. I start with that because every noble Lord who has spoken has talked about guidance. As we have explained, from April next year everyone who benefits from the new flexibilities will get free and impartial guidance. The Treasury will take overarching responsibility for the service that will be delivered, but it will actually be delivered by the Pensions Advisory Service and Citizens Advice. I assure noble Lords that they will be adequately resourced and will be able to, and by their very nature will, give impartial advice.

To ensure that the service is in place in what is admittedly a tight timetable, an implementation team has been established within the Treasury to work with those providers. The Government have given the FCA responsibility for setting standards for guidance and monitoring compliance. This will, we believe, deal with the question asked by the noble Lord, Lord German, about whether the service will be of a high enough quality—we are confident that it will be. Further progress on how we intend to introduce and implement the guidance guarantee will be issued by the Government before Christmas.

Noble Lords asked whether there should be a second line of defence, so I should perhaps just explain what is already planned and what the FCA has already said. The FCA has made it clear that firms should not do anything to dissuade customers from getting guidance, but it accepts, and the Government accept, that not all individuals will seek to take up the offer of guidance. It is their choice to do so. In its new rules document, the FCA confirmed that pension providers must signpost individuals to the guidance service in wake-up packs. We have said that they should be issued four to six months ahead of an individual’s nominated retirement date. But I take the point made by a number of noble Lords that it might be advisable to think about giving earlier signposts to policyholders that they need to think about their pensions.

The FCA has reaffirmed the expectation that firms encourage consumers to shop around on the open market and that they should receive sufficient information about the consequences of their choices before signing up to a purchase. It is introducing a new requirement that, when communicating with customers about accessing their funds, firms are required to ask whether they have taken guidance or relevant financial advice. If not, they should encourage them to do so. As noted above, it has introduced a new requirement to recommend that consumers seek guidance or advice rather than simply signposting it.

Firms will be required to give a description of the tax implications of the option selected by the consumer and it has been made clear that firms can question the consumer’s decision when they feel that it is inconsistent with their circumstances without fear of overstepping the boundary into regulated advice. The FCA is considering whether it is appropriate to place further requirements on providers and, as noble Lords have mentioned, it is reviewing the rules in the first half of next year. The whole issue of what might constitute a second line of defence will be in its mind at that point.

Finally on the guidance, the noble Lord, Lord McKenzie, asked whether it would be one shot at getting the advice. I will say two things on that. First, the fact that the pension provider will have to provide details on the individual’s pension in a standard form will help to ensure that, when the person goes, they have the information that they need. One of my concerns is that people turn up without the key bit of information —I can imagine myself doing that. We hope that we are getting round that. At the very least, people who have had their advice will be able to go back to the website and access it to check further information that they then think they need.

I turn to individual noble Lords’ comments. The noble Lords, Lord Beecham and Lord Davies of Oldham, and others asked about the impact on the Exchequer. A number of noble Lords slightly implied that we were doing all this only to get a small amount of additional income. I can assure noble Lords that the public finances are not in such a bad way that we have completely to reorder the way we do pensions to get a short-term benefit. The Budget costings showed that the net additional income to the Exchequer from the scheme will be £320 million next year, rising to £1.22 billion in 2018, but then falling off after that because people will bring things forward. As I say, our motivation for doing that has nothing to do with something that is, though significant, a relatively modest figure in the overall context of the public finances.

The noble Lord, Lord Davies, set out the Opposition’s tests, which included guidance, which I have dealt with, fairness and cost. On fairness, we are ensuring that the generous tax reliefs available on pension savings are not used solely for tax planning, given the flexibility that the rules offer. Overall, we think that the rules promote fairness. On cost, and in particular the question of the impact of the changes on welfare and social care spending, that obviously will depend on how people choose to use their savings. However, the Government do not expect this impact to be significant in the context of the steps taken to improve the sustainability of pensions spending, such as the changes to the state pension age and reforms to public service pensions. I remind noble Lords that the estimated net impact of the Government’s key pension policies is a saving of about £17 billion in 2030 on today’s terms.

The noble Lord, Lord Davies, asked about the review. It has two elements. On reviewing the cost to the Exchequer, the Government are committed to keeping the policy under review through the monitoring of information collected on tax returns and tax records. Additionally, HMRC regularly publishes data on tax receipts, which will reflect any impacts on the Exchequer. Any such impacts will be reflected in forecasts made at future fiscal events. On the guidance, it obviously will be extremely important that we understand its outcomes. The Treasury will establish robust KPIs to measure consumer outcomes.

My noble friend Lord German asked about the publication of the FCA standards and when that would be. The FCA has stated that they will be produced before the new scheme comes in, which is hardly surprising. We hope that it will do that significantly earlier than that, we hope at Royal Assent. On his concern about regulators working together, I say that the DWP and HMRC work closely with the Pensions Regulator and the FCA to ensure that there are no gaps in regulation in this area. We have no reason to believe that there are any. He also asked about housing wealth. The guidance will make sure that consumers consider questions about their situation as a whole and will direct them to further sources of information as appropriate. However, one of the problems of housing wealth for many people is that they do not have any intention of accessing it as part of their pensions. Some people do, but very many do not. Given the practical problems of downsizing, which we discussed recently in your Lordships’ House, many people who in an ideal world might want to do that in fact do not.

The noble Baroness, Lady Greengross, asked about a possible extension of the levy beyond the number of firms currently planned. Until now, the Government have decided that those firms which are most likely to benefit from better informed and engaged consumers should help to fund the service, hence the levy on the current range of firms. Occupational pension schemes do not currently offer accumulation products, as membership of such schemes is linked to employment and they do not sell products into the market in the same way as financial services firms. It is possible, however, that schemes may wish to change this approach over time, and we will keep the levy under review.

The noble Baroness also asked about welfare and the impact of these changes on social care, as well as how the Government are treating the new pension arrangements. We are treating the options as similarly as possible for the current welfare means test purposes by applying a notional income of 100% rather than 150% of the income that an annuity would have provided. We want to make sure that the decisions people make about drawing down their pensions will not significantly affect how they are assessed for welfare and social care support.

A number of noble Lords, including the noble Lord, Lord Hutton, questioned the evidence that the pension flexibility as proposed will encourage or discourage saving. Of course, we will not know that definitively until we have the scheme up and running. However, the National Association of Pension Funds found in its spring workforce survey that 28% of workers say that they are now more likely to save into a pension. Young people are the most likely to say that, and lower-income respondents also said that they were more attracted to pension saving. While a number of noble Lords have been rather gloomy about how people will respond to these changes in terms of savings, one of the reasons people do not want to save for a pension at the moment is that they often think that an annuity is such appallingly bad value. That is definitely the case for young people, and indeed more generally.

[Baroness Drake]

Will the noble Lord accept that in terms of people not actively saving, the behavioural evidence shows that it has nothing to do with annuities, but with their own inertia about dealing with complex decisions? Any complex financial decision has the same effect.

[Lord Newby]

My Lords, I think that the strong take-up of auto-enrolment suggests that people are actually a bit more long-sighted than they are sometimes given credit for. Young people in their 20s and early 30s who are thinking about their pension savings are looking at what kind of value for money they can get from doing that as opposed to putting their money into alternative forms of saving. So I am not sure that I altogether agree with the noble Baroness.

The noble Lord, Lord Hutton, said that the Government should strongly encourage partial annuitisation. We have always been clear that an annuity will remain the right choice for many at some point in their retirement because it can provide the security that they are looking for. He also asked about inheritance tax. I can say that the intention of the legislation is that the scheme administrator will retain some discretion over how death benefits are paid, ensuring that these benefits can remain outside the scope of inheritance tax.

[Lord Newby]

My Lords, I do not know, I am afraid, but I will write to the noble Lord as I am almost out of time. The House has rules that, as a Whip—although I know I am going to break them already—I can break only to a certain extent. I will write to the noble Lord in that respect. I might also write to him about the situation in Australia.

The noble Lord, Lord Freeman, asked whether the new flexibilities would put people at risk of poverty in the future. The basic principle here is that people must be trusted to make their own choices about how to use their savings to fund their retirement. We believe that the introduction of the new, simpler state pension in April 2016 will help minimise the impact on means-tested benefits as the full level of the new state pension will be above the level of the basic means test in personal credit, and we expect over 80% of those reaching state pension age in the mid-2030s to be receiving the full new state pension.

The noble Baroness, Lady Drake, took up the theme of the noble Lord, Lord Hutton, about the dangers of a revolution. She saw the dangers as being significantly more considerable, I think, than most noble Lords who spoke. Of course, some of the potential problems that she foresees are impossible to predict absolutely, but I did not recognise the gloomy landscape that she portrayed in a number of respects. She asked why we were still paying tax relief when people will spend all their money. Tax relief is designed to support and encourage people to save for their retirement.

[Baroness Drake]

I did not ask why we are still paying tax relief if people are going to spend all their money. I asked whether, if people did not have to have annuities, it was possible that, over time, successive Chancellors revisiting the consequences for the next generation might not have this generation’s generosity on tax relief.

[Lord Newby]

My Lords, I was just about to say that this Government certainly are not going to revisit it. It is impossible to know what future Governments will do about tax policy. One of the key points about tax relief is to encourage people to save and I think any future Government will want them to carry on doing that.

A number of noble Lords, including the noble Baroness, Lady Drake, talked about the possibility of people taking their pensions early at 55. There is that freedom but my personal view is that, particularly as people are working to a later age rather than retiring earlier, the number of people who will wish or think it sensible to take their pension at 55 will not be very great. For some people, particularly those with health conditions, taking an early pension is absolutely the logical thing to do.

The noble Lord, Lord Holmes of Richmond, asked whether trustees and scheme managers will be required to evaluate the appropriateness of the advice that individuals are given when moving from DB to DC. As we have set out in our consultation, we intend that trustees and managers will be required to check that advice has been received from an FCA-authorised person but they will not be required to evaluate the content of the advice or to check its quality. The detail of the process by which scheme managers will be required to check that the advice has been taken will be set out in regulations, which we will work closely with the industry to develop. I apologise for rushing through.

The noble Lord, Lord McKenzie, asked whether I would be happy to arrange a meeting with BALPA, and I would indeed.

The noble Lord, Lord Bradley, gave a strong explanation of the benefit of collective schemes. He touched on one of the key benefits of the changes. We do not know at this stage how many people will take them up; we cannot give detailed estimates of how many people will do any number of things at this point. We see strong practical reasons to believe that collective schemes will benefit many people and that the industry will move to develop them.

To sum up, as my noble friend Lord Bourne laid out at the beginning of our debate, these are radical changes that build on this Government’s previous reforms to the UK private pensions market. At the heart of the reforms is the Government’s intent to give people greater choice. That entails both greater choice for businesses regarding the type of pensions that they offer and greater choice for individuals in how they access their pension savings. These radical changes need to be made to reinvigorate the private pensions market and to ensure that it remains relevant for future generations of savers. I commend the Bills to the House.