PPI PENSIONS POLICY INSTITUTE Pension reform in the UK Alison - - PowerPoint PPT Presentation

Alison O’Connell Pensions Policy Institute Retirement Commission, Wellington 2 February 2006

PPI

www.pensionspolicyinstitute.org.uk

Pension reform in the UK

PPI

Pension reform in the UK

• Why is reform needed?
• What reforms are being

considered?

• Some key points that may be

relevant to New Zealand

PPI

The backdrop

• People are living longer
• The state pension is declining
• Savings are flat

“If nothing else changes, tomorrow’s pensioners will be relatively poorer, on average, than today’s pensioners”

PPI

The structural arguments for reform

• 1. Complexity
• 2. Unequal outcomes
• 3. Too high expectations of

saving

• 4. State pensions unsustainable

PPI

The UK pension system

Tier 1 State Tier 2 State Unfunded Contributory

• r (different)

credits

Compulsory

for most employees

Tier 3 Private, tax incentivised Funded Contributory Voluntary BSP: Basic State Pension S2P: State Second Pension

Previously SERPS

Occupational and personal pensions Pension Credit = Guarantee Credit + Savings Credit State Means-tested

Contracting

• out

Unfunded Contributory

• r credits

Compulsory

for most workers

PPI

Complexity of state pensions means uncertainty in future benefit

• Over 100 parameters define an individual’s

future state pension income

• Over a lifetime, parameters may change:
• Individual circumstances
• Government policy
• Annual Budget decisions

PPI

More older people will be means tested

63% 46% 64% 71% 82% 40% Today 2025 2050 IFS estimate PPI estimate

Estimated proportion of older people eligible for Pension Credit Pension Credit take up: 50% - 80%

PPI

Retirement income varies greatly

Pre-tax income of single pensioners by quintile 2003/4, £ per week

Bottom fifth Next fifth Middle fifth Next fifth Top fifth

£102 £145 £175 £217 £405 State pension & benefits Occupational pension Investments Earnings Personal pension Other

PPI

Many reasons for unequal outcomes

State pension & benefits BSP & S2P: gaps and unequal entitlement for women and carers Legacy of SERPS: higher pensions for higher earners Some benefits not taken up More £s saved and more tax relief per £ 55% of tax relief goes to 2.5m higher rate taxpayers Occupational & personal pension

PPI

Why is private pensions saving not growing?

• Some employers limiting expenditure on

employee pensions; increasing regulation cited as an influence

• Means-tested state benefits a barrier to

selling and buying pensions

• High living costs, especially at young ages
• Low trust in pension products
• Low interest in savings and pensions;

people prefer to spend money now

PPI

0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 2010 2020 2030 2040 2050 2 4 6 8 10 12 14 16 18 20

State spend on pensions planned not to keep pace with pensioner population

People over state pension age, RHS, millions Cost of state pension system, LHS, % GDP (as at November 2005)

PPI

UK’s spending on state

0% 5% 10% 15%

Aus US NZ Spain Sweden UK

2005 2050 Illustrative government spending on state pensions as a percentage of GDP, as at November 2005

pensions looked

• ut of line

PPI

Pension reform in the UK

• Why is reform needed?
• What reforms are being

considered?

• Some key points that may be

relevant to New Zealand

PPI

The UK pension system

Tier 1 State Tier 2 State Unfunded Contributory

• r (different)

credits

Compulsory

for most employees

Tier 3 Private, tax incentivised Funded Contributory Voluntary BSP: Basic State Pension S2P: State Second Pension

Previously SERPS

Occupational and personal pensions Pension Credit = Guarantee Credit + Savings Credit State Means-tested

Contracting

• out

Unfunded Contributory

• r credits

Compulsory

for most workers

PPI

The shape of the consensus solution

Tier 1 State Tier 3 Private, tax incentivised Funded Contributory Voluntary BSP: Basic State Pension Occupational and personal pensions State Means-tested Smaller

Bigger and wider

PPI

The Pensions Commission’s options for reform

• 1. Unify BSP and S2P into a

flat-rate Citizen’s Pension: immediately or by 2045

• 2. Let the gradual flattening of

S2P play out to 2055

• 3. Accelerate the gradual

flattening of S2P to 2030

Pension Commission’s preferred approach

PPI

The Pensions Commission preferred approach

Tier 1 State Tier 2 State Unfunded Contributory or (revised) credits Compulsory for most employees and self employed Tier 3 Private, tax incentivised Funded Contributory Voluntary BSP: Basic State Pension S2P: State Second Pension Occupational and personal pensions Pension Credit = Guarantee Credit + Savings Credit State Means-tested

DB only

Unfunded Future accruals: residency-based Universal over age 75 Compulsory for most workers Tier 2½ State/Private partnership Funded Contributory Compulsory for employer if employee does not opt out

NPSS: National Pension Savings Scheme

PPI

Hutton’s 5 key tests of pension reform

• 1. Affordable? ...long-term stability of public finances…
• 2. Fair? ...never again see pension poverty...fair to women and carers,

correcting past inequalities…fair to those who have saved…

• 3. Promotes personal responsibility?

...welfare state provides a floor…but its primary role must be to enable people to provide for themselves…

• 4. Simple? …people need to know what Government will do for

them…

• 5. Sustainable? ...people can make decisions about their

retirement planning with confidence that it won’t be pulled apart by successive Governments fiddling with the system…

PPI

How does the Pensions Commission’s preferred approach measure up?

• 1. Affordable? Probably…but need for

increase in spending not fully appreciated

• 2. Fair? Better but not as good as it could be?
• 3. Promotes personal

responsibility? To some extent, as means-

testing restrained, but NPSS too prescriptive?

• 4. Simple? No
• 5. Sustainable? Unlikely

PPI

Pension reform in the UK

• Why is reform needed?
• What reforms are being

considered?

• Some key points that may be

relevant to New Zealand

PPI

Some key points for NZ

• 1. NZS is a world-class model
• 2. Is KiwiSaver a better design for

the UK than NPSS?

• 3. Expenditure on state pensions has

to increase as the population ages

• 4. Working at later ages has to be a

key part of policy

PPI

KiwiSaver vs. NPSS (1)

NPSS KiwiSaver Scope Auto-enrol employees, employer must contribute if employee stays in Auto-enrol new job starters Contri- butions As a % of pre-tax earnings between £4,888 to £32,760: 4% employee 3% employer 1% tax relief 4% of all earnings, employee only, plus $1,000 one-off incentive

PPI

KiwiSaver vs. NPSS (2)

NPSS KiwiSaver Invest- ment 6-10 funds 0.5% AUM max charge One lifestyle default fund Other funds allowed Few default providers Fee subsidy from Government Other providers allowed Benefit Available at age 65

• nly; have to annuitise
• r drawdown by age

75 Early withdrawal available and partial withdrawal allowed for (incentivised) first house purchase

PPI

KiwiSaver vs. NPSS

NPSS KiwiSaver Policy aim It is a reasonable aim

• f public policy to

seek to ensure that the median earner achieves an income replacement rate [in retirement] of at least 45%. Pensions Commission …help New Zealanders to save, giving them greater security and choice and strengthening the economy. Minister of Finance

PPI

0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 2010 2020 2030 2040 2050 2 4 6 8 10 12 14 16 18 20

Planned state spend on pensions has increased

December 2005 revision

People over state pension age, RHS, millions Cost of state pension system, LHS, % GDP Previous plans

PPI

The impact of the Commission’s proposals

4.8% 2.6% 1.6% 0.6%

New saving in NPSS Improved state pensions Later retirement Total Increase in the percentage of GDP transferred to people aged above SPA, due to each element of reform proposal by 2050

PPI

Further information

PPI

Pension reform in the UK: Timeline

• 1998: Government adopts “40:60” state:private policy, proposes

stakeholder pensions, S2P and Pension Credit

• To 2005: Concern grows among pensions stakeholders about state

pensions…consensus on the objective of reform and shape of the solution emerges, but important differences in how to get there (see PPI publications)

• End 2002: Government tasks Pension Commission to look at the

future of long-term private savings (compulsory?)

• 2003/4: Legislation for new Pension Regulator and Pensions

Protection Fund developed

• October 2004: Analysis in Pensions Commission First Report

confirms stakeholder concerns

• February 2005: Government commits to reform of state pensions
• November 2005: Pensions Commission Second Report with 3
• ptions for reform
• Spring 2006: Government proposals expected in White Paper