Britain's pension system is about to undergo its most radical overhaul of the past 50 years. From April 6, 2006 - 'A-Day' - the current eight sets of pension taxation rules will be replaced by one. It is widely held that the simplified system will be attractive to those with some disposable income or who wish to make retirement provision but were deterred by the complexities of the former system.
However A-Day will have little impact on the mass market customers who need to be encouraged to save. The immediate impact of A-Day will be felt most by those at the wealthier end of the market. This is likely to prove controversial at a time when the government has failed to boost demand in the pensions market among the lower income customers.
A-Day does not address the problem of lack of demand for pensions in the market. The issue needs to be tackled urgently to increase uptake of voluntary pensions going forward. Unless the government introduces a radical system, similar to the national pension savings scheme (NPSS), as recommended by the Pensions Commission's report, the savings gap in the UK will keep on growing.
Not so simple
Successive governments have put their own stamp on pensions, resulting in complication and confusion, with a system of complex taxation rules. The premise behind the simplification is that the current confusing system deters customers from saving, and advisors waste time and money explaining these tax systems and wading through the maze of regulation.
For the pensions industry, the benefits of simplification are obvious. It is estimated that it will save the industry GBP80 million per year. Ironically however many financial advisors have reported that they feel simplification will actually make the pensions market more complex because of the greater range of options that will be possible in contribution, allocation, borrowing and investing.
The rich will benefit most
Wealthy customers, with their complex financial needs, will be best positioned to take advantage of the liberated market that these changes will create. This is because wealthy customers are far more likely to utilize the greater freedom that simplification allows.
In the near future, Datamonitor predicts a polarization of personal pension products, going towards either self invested personal pensions (SIPPs) or low-cost pensions. SIPPS will benefit most from the post A-Day changes due to new high contribution limits, increased range of investments and wider choice of retirement benefits, and Datamonitor forecasts new business premiums for SIPPs to grow from GBP207 million in 2005 to GBP516 million by 2010, gradually replacing personal pensions.
The changes are likely to prove controversial as they will increase the opportunities for tax-free investment in pensions to the wealthiest individuals at a time when the government has so far failed to boost pensions saving in the majority of the population and mass market customers are severely under funded in their retirement provision.
Compulsion a necessity
Although the A-Day changes will make it simpler for the mass market to put money in to a pension scheme, it won't necessarily boost demand among the lower income customers. The lack of demand stems from two groups in the UK society: those who do not want to save and those who cannot afford to save.
The long term result is that both these groups will be suffering from a huge savings gaps. In November 2005, the Pension Commission's report recommended a major shake-up of current pension policy, including the introduction of a national pensions saving system with soft compulsion. The low cost NPSS would be provided through employers, with auto-enrolment unless a worker wants to opt out.
A decision from the government regarding which, if any, of the Lord Turner's recommendations it intends to introduce is expected soon. Debate in the industry over the possible introduction of NPSS is rife. The common view from providers is that the government would be wasting its time, money and effort in setting up a totally new pension system when a similar framework already exists for stakeholder products.
Indeed, if the proposed introduction of an NPSS product goes ahead this will completely restructure this part of the market and stakeholder pensions will effectively cease to exist. Datamonitor is of the view that NPSS or a similar product needs to be introduced in spite of the complaints from various interest groups, otherwise the gap between rich and poor in terms of retirement provision will grow even wider.
The government's U-turn on residential property in SIPPs has demonstrated that they are not afraid to make far reaching decisions on pensions that go against what many providers wanted and had worked towards.