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Tuesday 27 September 2016
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All change please!

Insight: Finance

Brenda Durrant

Chartered Financial Planner, Price Bailey chartered accountants

Brenda is an independent financial adviser specialising in corporate pensions and employee benefits. She is one of the specialists on the Management in Practice Ask the Experts Accounting panel. Brenda is currently involved in advising employers on changes to pension legislation and what they must do to comply

The Hutton report has dominated media coverage on pensions for a long time now, but other important changes are taking effect in 2012 that employers need to comply with. It can all be a bit overwhelming and confusing – so what it is all about and what do you need to do?

There are four main ongoing pension matters:

  1. New pension legislation affecting all employers with effect from October 2012. This article will focus on these changes.
  2. The state pension age is changing for both women and men. The first step is to bring the age women can draw their state pension from 60 to 65 to equalise with men; the state pension age will afterwards be increased from 65 for both men and women – to 66 in 2020 and onto 68 at a later date.
  3. The Hutton report forms the basis for the government’s public-sector pension reform. This will affect the NHS. Reform proposals include switching from final salary pension scheme to career average, bringing retirement ages in line with the state pension age for most workers and introducing a cost ceiling for government spending on pensions.
  4. The NHS Pension Choice. This is an exercise to give all eligible members of the NHS Pension Scheme a one-off option to transfer past and future benefits from the ‘1995 Section’ of the scheme to the ‘2008 Section’ if they wish. This should be done by March 2012.

To bring these changes into perspective we need to look at the history of pensions.

A quick history lesson
In January 1909 the state pension was introduced at the rate of five shillings per week, payable from age 70 and means tested. After the Second World War, changes were made and we had the start of our ‘modern’ state pension, payable to all from 65 for men and 60 for women.

When we look at what it was trying to achieve it seems a sensible solution. An individual worked for nearly 50 years and then retired. For the five to 10 years they were expected likely to survive they received a reasonable level of income, with each pensioner supported by approximately 10 national insurance payers.

How things have changed. Individuals start work later, having spent more time in education. Life expectancy has increased and the ratio of national insurance payers to pensioners is rapidly approaching 3:1. Now we have a situation where an average individual works for maybe 40-45 years and is retired for 20-30 years. There is no invested pension fund to make these payments, so each pensioner is supported by about three national insurance payers.

Clearly something has to change
It could be argued that changes should have been made earlier on a more gradual basis. Various attempts have been made to enhance the state pension but the only realistic solution is to increase the amount of personal savings being made. In other words, encourage people to build up their own funds to supplement a modest basic state pension.

Currently approximately 33% of employees have defined benefit pensions, but as we know that is falling. Around 33% have defined contributions pensions, but many of these have a fairly modest level of contribution. The remaining 34% have no pension provision other than the state benefits. Somehow, the 34% with no provision at all need to be encouraged to make some and the 33% with defined benefits must be encouraged to make realistic contributions.

Apathy rules – so what?
If you invite people to join a scheme many will never get around to it. If, however, you put them in and invite them to leave, how many will simply not get around to filling in the forms? Compulsion is seen as a terrible word when applied to pensions and savings but apathy is potentially a powerful tool. By default, this means a lot of people build up their own pension fund that they can draw upon to pay the pension, in some form, at retirement.

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Changes in 2012
The following changes will come into effect from October 2012:

  • All eligible workers must be enrolled into a qualifying workplace pension (QWP) by the date the regulators have designated to the employer (the staging date).
  • A QWP can be a defined contribution pension scheme, in which case the total contributions must be at least 8% of an employee’s qualifying earnings by October 2017. The employer must pay at least 3%, with the employee making up any balance.
  • A QWP can be a defined benefit pension scheme, such as the NHS scheme, and there are standards with respect to the benefits that the scheme must meet.
  • A QWP could also be a mix of the above, either as a hybrid scheme (which is quite unusual) or employers could run more than one type of pension scheme to meet the needs of employees.

Sounds so simple doesn’t it? So what steps do you need to take?

Seven steps for automatic enrolment
Step 1: When. Know your staging date
The new rules come into play in October 2012 but it is impractical to expect everything to happen at once. No system could cope with that, so employers are being phased in at various times – starting with the largest.

The first step is to identify your staging date. This is the latest date by which you must comply with the new rules. The staging dates are governed by the size of the employer. If you are part of a primary care trust (PCT) for pay purposes, then you will tie in with their staging date. If you have your own payroll it will depend on how many you employ – visit The Pensions Regulator website (see Resources) for a detailed timeline. If you have 50 or less employees you will need the last two characters of your PAYE reference code to check your date online.

Step 2: Who. Assess your workforce
You need to split your workforce into two groups: ‘jobholders’ and ‘entitled workers’.

  • Jobholders. These can either be:
    – Eligible jobholders who are qualified for automatic enrolment and will need to be automatically enrolled in a QWP on your staging date – or already be in one.
    – Non-eligible jobholders who do not qualify to be automatically enrolled but can opt to be in the scheme – if they do, you must contribute on their behalf.
  • Entitled workers. These are effectively anyone else and they are entitled to join a pension scheme if they wish – but you do not have to make any employer contributions.

See Box 2 for a breakdown of scheme allocation. You need to review this on an ongoing basis, as eligible jobholders must be enrolled once they have completed three months’ service, but they can also opt to join during the first three months if they wish.

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Step 3: How. Decide on your solution
There are two basic options, but you can of course run a combination of the two:

  1. NEST (National Employment Savings Trust). This is a centralised, government-sponsored scheme. It is primarily aimed at smaller employers who do not have the financial size to negotiate competitive charges on their own arrangement and for employers with large numbers of transient staff.
  2. Your own QWP arrangement, which needs to reflect the minimum contributions, auto-enrolment and eligibility rules as outlined above. The main advantage, other than cost, is that you have more control. (The NHS scheme does not currently meet these criteria but will be modified so it does qualify and may be a sensible option. The question to ask is, will it cater for all your eligible employees? Could all your employees join the NHS scheme?)

Step 4: Communicate. Inform all your workers in writing
Employers must inform all their workers in writing about the changes, detailing how they will be affected. The duty is on the employer to provide the right information to the right individual, at the right time.

Step 5: Enrol members. Auto-enrol all eligible jobholders
Establish the scheme, if you are putting in place a new one, and auto-enrol all eligible jobholders.

At this point it is worth stressing that you must enrol eligible jobholders. They can only opt out after you have enrolled them. Even if they tell you they do not want to join you must enrol them  anyway.

If they want to opt out, they must apply for a form from the provider, fill it in and return it. If they have done this quickly any contributions made can be refunded. If they take too long (about a month from the date of enrolment) any contributions made stay in. Then, in three years’ time, you must enrol them again. This three-year clock is a ‘scheme’ clock, with re-enrolment on the third anniversary of your staging date and again every three years thereafter.

Step 6: Register. Keep comprehensive records
Register with The Pensions Regulator (see Resource). This can be done online but we cannot stress enough the need to keep comprehensive records. Some pension providers (but not all)
are incorporating software to help employers manage this.

Step 7: Make payments. Ensure you get it right
This is fairly straightforward if you are using the NHS scheme. It does get a bit complicated if you are running NEST or another defined contribution QWP. The minimum contributions are phased in over time and are based on an employee’s ‘qualifying earnings’ (currently between £5,035 and £33,540) and not on salary as you may expect. The exact figures will be confirmed nearer the time.

Penalties
Failure to comply could be very costly. Penalties will be applied on a fixed schedule of fines as set out in Box 3. But actually it is all quite straightforward if you follow each step, allow plenty of time and seek advice if you need it – it could prove very cost-effective.

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Since the submission of this article there has been an announcement of a deferral of the dates when this legislation will impact smaller employers, particularly those employing less than 50. The Department for Work and Pensions will publish the new timeline of dates in January 2012. No other details have been changed and all employers remain within the scope of this legislation.