Are Defined Contribution pensions failing to deliver good retirement incomes?
14 May 2024
Pension schemes are a recognition of every employer’s duty to provide for their employees’ old age. However, 89% of pensioner households now fall short of the moderate retirement living standards set by the Pensions and Lifetime Savings Association. Defined Contribution pension consultant David Parfett explores how employers can make their pension provision fit for purpose.
Analysis by the Pensions Policy Institute has found that a staggering 89% of pensioner households are set to fall short of the “moderate” retirement living standards set by the Pensions and Lifetime Savings Association.
The retirement living standards comprise three levels of annual retirement expenditure – minimum, moderate and comfortable:
| Level | Single Person | Couple |
| Comfortable | £43,100 pa | £59,000 pa |
| Moderate | £31,300 pa | £43,100 pa |
| Minimum | £14,400 pa | £22,400 pa |
All figures net of tax
These standards help savers understand how much money they will need to attain the lifestyle they want in retirement.
At the moderate level, pensioners will have enough income for a fortnight holiday abroad and a long weekend UK break each year, £55 a week to spend on groceries, and a small car.
How helpful is auto-enrolment?
From being a daunting prospect for many employers, auto-enrolment is now a standard part of HR and payroll processes.
Auto-enrolment has been a real success in making more people save for their retirement. More than 10 million people have been automatically enrolled into workplace pensions since 2012, benefiting from employer contributions and tax relief. Some employees may never have saved any money for retirement without auto-enrolment. The vast majority of these employees have been auto enrolled into a Defined Contribution (DC) pension scheme.
While it’s good news that so many more employees are saving for retirement, the legal minimum DC contribution is a combined 8%. Realistically, contributing this amount into a pension each month over a working life of, say, 45 years will not be enough to achieve an adequate retirement income for the next 20+ years, especially if there are no other savings or income streams earmarked for later life.
There have been calls for the minimum contribution rate to increase to 12%, amid growing concerns around pensioner poverty. Recent analysis has found that with a contribution level of 12%, a typical 18-year-old would have an extra £96,000 in their pension pot, in real terms, by retirement age, equivalent to £250 per month.
How well are employees planning for their retirement?
Are employees failing to understand that a total of 8% auto-enrolment contribution will not be enough to provide a moderate standard of living in retirement? Or are there broader trends at play?
The answer is both.
Most employers have introduced auto-enrolment without putting in place the information and support that their staff need to make effective retirement plans. And past studies have consistently shown that even before auto-enrolment, inertia played a significant role in people’s reluctance to save for retirement.
Many individuals simply don’t review how much they contribute, how they are invested, and how and when they will access their benefits.
The Government and The Pensions Regulator take action
The Pensions Regulator (TPR) has grasped the inadequacies of auto-enrolment and now expects employers to make sure that their workplace pensions:
- Are monitored on a regular basis
- Deliver good value
- Provide retirement outcomes for staff.
The Government has also taken action to help young and low-paid workers. The Pensions (Extension of Automatic Enrolment) Act 2023 gives the Secretary of State the power to:
- Reduce the lower age limit for auto-enrolment from 22 to 18
- Remove the lower earnings limit for qualifying earnings.
Unfortunately, due to the combined impact of the Covid-19 pandemic and the cost of living crisis, the implementation of these changes has been delayed. Given that underfunding, at the 8% contribution level, is widely acknowledged, any statutory increase to the minimum contributions – from 8% to 12%, for example – is hard to envisage in the current financial climate.
What can employers do to improve workplace pensions?
Employers cannot rest on their laurels when it comes to their pension provision. Although a scheme may have been considered fit for purpose when it was first launched, pensions have continued to evolve significantly over the past decade.
This is due to a number of reasons, including:
- Market shifts and provider developments
- Changes in legislation
- The trend for individuals to reassess their life priorities, particularly since the pandemic.
So, if the hands-off approach instilled by auto-enrolment simply means some employees are not saving enough, what can employers do to help their employees plan for retirement and engage with their pension?
Employers should ask themselves these questions:
- Is our workplace pension scheme compliant with TPR’s requirements?
- Does our workplace pension scheme offer value for money?
- Are our employees fully engaged with our workplace pension scheme?
Worryingly, a common answer to these questions is “I don’t know”. Employers around the country are failing to meet their corporate responsibilities for their workplace pension. And their employees lack the pension knowledge needed to understand their benefits and plan their retirement.
It’s for these reasons that First Actuarial has launched its FirstEngage service. We work with employers to make sure they comply with pensions legislation and regulatory requirements. We also help them educate employees to understand their pension and the benefits it will give them at retirement.
You can find out more about our FirstEngage service here, or get in touch with me to discuss how we can help you manage your Defined Contribution pension arrangements.