New Clause 6 - Fees and charges

Pensions Bill [Lords] – in a Public Bill Committee at 9:00 am on 14 July 2011.

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‘(1) The Pensions Act 2008 is amended as follows.

(2) In section 26(4)(6) after “pay reference period” insert “, taking into account the level of charges.”.’.—(Teresa Pearce.)

Brought up, read the First time, and Question proposed (12 July), That the clause be read a Second time.

Question again proposed.

Photo of Graham Brady Graham Brady Chair, Conservative Party 1922 Committee

I remind the Committee that with this we are considering new clause 10—UK personal pension schemes: additional protection—

‘(1) The Pensions Act 2008 is amended as follows.

(2) In section 26(4)(b), at end insert “, ensuring they are protected to the same level as stakeholder terms and conditions.”’.

Photo of Steve Webb Steve Webb The Minister of State, Department for Work and Pensions

I am grateful to the hon. Member for Erith and Thamesmead for tabling new clauses 6 and 10, because they give us the opportunity consider the important issue of charges. I am sure that the hon. Lady will be with us soon. She made some important points, as did the hon. Member for Leeds West, about how charges can have a big impact on the pensions that people receive. Indeed, it is little understood that a seemingly innocuous charge—what is 1.5% between friends?—cumulated during 40 years of a pension can  take a large slug of the final pension. Therefore, even relatively small differences in charges can make a big difference. Given that, ideally, we want as much money as possible going into pensions not charges, it is entirely proper that the new clauses were tabled. I do not believe that either of them would do what it says on the tin or would achieve what they are meant to achieve but, in the spirit in which they were tabled, I shall respond positively.

New clause 6 suggests that, when the employer is choosing a scheme for auto-enrolment, he should take into account the level of charges. Obviously, we hope that employer would do that anyway. The practical impact of the new clause is not clear— what the penalty would be if they did not do that; whether we would fine employers who did not take account of charges. However, I agree that the level of charges is important. Likewise, new clause 10 refers to the stakeholder terms and conditions. That is partly to do with charges but, if we were to accept the new clause, we would have to consider issues such as lifestyling and transfers, which are part of the stakeholder terms and conditions, so it is much broader than only the issue of charges. However, as I said on Tuesday, I am keen to respond positively to such important matters.

Broadly speaking in respect of charges, the Government have ensured that there is a low-cost, good value-for-money provider in the market, which is NEST. Its charging structure is a contribution charge on the way in of just below 2%, and a 0.3% annual management charge. It is estimated that, on average, that will work out at about a 0.5% AMC over the lifetime of a pension, which is clearly well below stakeholder levels and many of the products in the market. However, it might not be the lowest and obviously employers will want to examine charges when considering how best to fulfil their duties under auto-enrolment.

The Department for Work and Pensions has down its own research on such matters, but at present the market is already operating below the 1.5% stakeholder price cap. In fact, a stakeholder cap set at a 1.5% level would rarely bite. The Department’s charges survey conducted in 2009 showed that the level of charge for workplace personal pensions is lower than 1% for more than half the schemes and, in regard to default options in occupational pension schemes, our research found that most AMCs were between 0.4% and 0.6%, and no charges higher than 0.9% were recorded.

I have referred specifically to default funds, and they are an important part of the charging debate. In other words, auto-enrolment inertia means that most people will not be making active choices. They will be put into a scheme and will stay there, because they will not get round to getting out. As for which fund and set of charges that they face, many people—most people, according to evidence on auto-enrolment around the world—will end up in the default fund, because, by definition, not being in the default fund depends on an active choice. The characteristics of the default fund are therefore crucial.

The Department is in the process of issuing guidance on what default funds should look like, and it specifically says that we need transparency in relation to charges. We anticipate that there will be a very competitive market, certainly for the larger firms. We already know that the staging process brings in the largest firms first, and there will be a lot of competition for this new growth  in the pensions industry. We anticipate that the presence of NEST in the market will bring charges down, which is welcome. Therefore, we do not think there is a particular issue on charges with the larger firms.

The question then is whether the smaller or medium-size employer is vulnerable to high charges. It is important to remember that part of the reason why the market has not hitherto provided for such firms and their employees—at all in many cases—is because they are not profitable. Going to a one-person engineering firm in the west midlands and trying to sell it a pension is a very expensive thing to do. If that one employee is not particularly well paid, the charges or the percentage of a low wage are not very much at all.

It is therefore unlikely that an individual small employer will have what someone described to me the other day as a man in a shiny suit turning up and saying, “I’ve got this wonderful pension” and so on. It could happen, but we think that the smallest firms will get the letter from the regulator and they will see NEST flagged. Those who are not very interested in all this pensions stuff will go for NEST or will make a relatively simple choice. On the whole, because of the costs involved, they will not have a sales force turning up and spending time selling them a product. Therefore, we think the risks of people facing high charges in practice are limited. Importantly, we have powers under the Pensions Act 2008 to cap charges that are excessive, and the industry knows that we have such powers.

In principle, we believe that competitive forces will bring charges down, certainly for the larger firms. Many smaller firms will end up with NEST, and the costs of selling to such firms will mean that a high-cost provider is unlikely to spend money sending a salesman to them. However, it is important that we are not complacent. I therefore welcome both new clauses, which put the issue on the agenda.

The issue of what are charitably called active member discounts or deferred member penalties was raised on Tuesday. That is to say, once the firm is no longer interested in me, because I work for somebody else, it jacks up the charges. I heard recently of a leading member of a financial institution, who had only just discovered how much the active member discount or deferred member penalties were on his own pension. He had not realised, since he left the firm that he had worked for, how much the charges had gone up. Again, we insist on transparency of costs and charges in default fund guidance. Our power to cap charges relates only to active members in qualifying schemes, but there is an issue about whether charge-capping powers should also extend to deferred members.

Photo of Rachel Reeves Rachel Reeves Shadow Minister (Work and Pensions)

We shall come on to the issue about transfers in and out of NEST in later amendments. However, if we were able to transfer money into pensions, into NEST, we would get round some of the problems of deferred member surcharges. We would not have to endure the high fees, because we could transfer the money into a lower-fee, lower-charging pension. I wonder whether we could think about the two amendments together in that respect.

Photo of Steve Webb Steve Webb The Minister of State, Department for Work and Pensions

The hon. Lady is entirely right. The issue of charges is tied up inextricably with the issue of transfers into NEST specifically, but transfers more  generally. For example, in some countries when someone leaves a firm, the default position is to either transfer the money into a new scheme or into some other product, or they actively choose to remain in the old scheme. That might be one way of addressing the matter.

Earlier this year, the Department issued a call for evidence on regulatory differences between defined contribution trust-based and contract-based pensions, focusing on short service refunds. Under current rules, in one sort of pension someone who has worked for a firm for a short time and has a small pot can get that money back, but in another sort the money remains stuck. The question is whether that is right. Our response is that we should do something about short service refunds, because that money is taken out of pensions, but disentangling that bit of the puzzle raises wider issues about transfers, including transfers into NEST.

We propose to publish in the autumn a document about transfers that will partly deal with the issue of deferred member penalties, because, as the hon. Lady said, if we can do something about transfers, the issue of people becoming stuck with a previous employer and having their charges jacked up will be much less significant. We will come on to NEST shortly, but I will continue to reflect on the issue of deferred member penalties, which the Department is considering in the context of its wider work on transfers.

We might ask why we do not just have a charge cap, but going straight in with one is not as straightforward as it sounds. New clause 10 implies using the stakeholder cap, but the difficulty is that that cap relates only to annual management charges, whereas actual charges might be a contribution charge—as for NEST—and the annual management charge. Thought would therefore have to be given to how the cap applied to schemes with different combinations of charges, to how those charges were converted to a standard metric and to how charges are sometimes higher because they relate to payment for a service.

Someone with a more sophisticated pension—raspberry ripple rather than vanilla, in my description—might pay more for it, but might receive a knickerbocker glory at the end. The analogy is slightly tenuous—we will come on to frozen assets in a minute. It should be possible for someone to choose a product that is more expensive, provided they are aware of that, to get back something that they want, such as active management. We would not therefore want to ban charges above a certain level, but such charges would be applied only to default funds. I could continue about the many permutations of how caps, such as the simple version in new clause 10 of using the stakeholder cap, would work in practice.

Photo of Rachel Reeves Rachel Reeves Shadow Minister (Work and Pensions)

Have the caps on charges in stakeholder pensions worked or have they resulted in the problems that the Minister described with his ice cream analogy? At times, his speech sounded a little like one made by my hon. Friend the Member for Edinburgh East.

Photo of Steve Webb Steve Webb The Minister of State, Department for Work and Pensions

I take that as a compliment.

There is evidence that the stakeholder charge caps have had a downward impact on the market, and we think that NEST will do the same. As I have said, the Government specified that the stakeholder cap applied  only to annual management charges. The difficulty with auto-enrolment is that people will be auto-enrolled into existing schemes, as well as into new ones, that have a variety of charging structures. For example, if we are not careful we might set an AMC cap, but if people have only the AMC, NEST would fall foul of that, because NEST includes a contribution cost. We would have to think about how to convert a contribution charge into an AMC, which might create new rigidities.

The thrust of what I am saying is that I am very sympathetic to the points raised by the hon. Members for Erith and Thamesmead and for Leeds West. I will certainly reflect further, not least as part of our work on transfers, on what they have both said about active member discounts, but neither new clause would achieve quite what is intended.

As I said, possibly before the hon. Member for Erith and Thamesmead came in, the danger of new clause 6 is that it would put a duty on firms to have regard to charges. That raises questions about what to do with firms that do not have regard to charges and whether they would be fined for going into high-cost pensions, as the fear is that they might go into high-cost pensions unwittingly. Therefore, I am not sure that new clause 6 would have the desired effect.

New clause 10 proposes the stakeholder model, but that does not read across neatly to auto-enrolment, because the stakeholder cap is only about AMCs, and the auto-enrolment world has different combinations of charges. The stakeholder cap has several other characteristics, such as lifestyling and rules on transfers, which we do not necessarily want to transfer lock, stock and barrel into auto-enrolment. New clause 10 is therefore probably too prescriptive.

Photo of Rachel Reeves Rachel Reeves Shadow Minister (Work and Pensions)

Before the Minister finishes, one of the issues that my hon. Friend the Member for Erith and Thamesmead and I raised was the fear of mis-selling. What would happen to the credibility of automatic enrolment—not NEST—if people were enrolled into schemes that were not suitable for them because much of their contributions were eaten up by charges? Have he and his Department considered that matter in relation to the importance of some sort of CAP?

Photo of Steve Webb Steve Webb The Minister of State, Department for Work and Pensions 9:15, 14 July 2011

I thought I had addressed that point—the risk is small. On the whole, many people will be beating a path to the doors of the big firms, trying to offer them the best deals. Such firms will have access to the best advice and so on. However, trying to sell a pension to a firm that has only one or two employees is an incredibly expensive thing to do. On average, workers in small firms are more likely to be lower-paid, because of the auto-enrolment population. With the commission that the pensions industry gets, even with several per cent. on a low wage, it would take an awfully long time even to recoup the costs of the hours spent selling the product, the journey to the factory and so on.

We think, therefore, that the risks are limited, but I reassure the hon. Lady that we are not complacent. We will monitor the market as it develops, starting with the big firms and gradually working down to the smaller  ones. We will keep an active eye on all this, but I am happy to reflect further on some of the points that have been made. The new clauses do not quite do the job, but I am grateful to both hon. Members for raising these important issues.

Photo of Teresa Pearce Teresa Pearce Labour, Erith and Thamesmead

First, I apologise for being late—it seems that being late for everything is my routine this week.

I said on Tuesday that I would press new clause 6 to a vote, but in light of what the Minister has said, I am quite reassured. As has been said, the amendments relate to fees and consumer protection. One of my themes in our discussions is my concern about the reputation of the pensions industry. There is inertia when people have to opt in to a pension scheme. They might feel unsure about whether pensions are for them and whether they can be trusted, and that is one of the barriers that stop people making that leap. Auto-enrolment is one way round that problem, but increasing confidence is another, and the more open fees and consumer protection are, the more people will be reassured.

I was interested in the Minister’s comments about a man in a shiny suit and an employer with one employee. In relation to NEST, the Work and Pensions Committee heard that the current pensions industry is uninterested in the types of people whom we are trying to help, because such people have what the industry calls “unattractive lives”, which is harsh. I am reassured by the Minister’s comments, so I beg to ask leave to withdraw the motion.

Clause, by leave, withdrawn.