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Brandon Lewis (Great Yarmouth) (Con)
It is a pleasure to serve under your chairmanship this afternoon, Mr Gale. I declare an interest: I have a pension myself, and I draw Members’ attention to the Register of Members’ Financial Interests, as I have an interest in a company that has a pension scheme.
“Annual management charge”, “reduction in yield” and references to “bid/offer spread” are just a few of the descriptions that can be attached to our pension pots. When our annual pension statement arrives, do any of us study it in great detail, or do we just glance at it before scratching our heads and filing it away?
I imagine that most consumers feel confused when they see phrases such as “annual management charge”, “reduction in yield” and “bid/offer spread”. A natural reaction is to assume that pension companies and fund managers understand it all and know what is best for us. Many, however, feel that the information is important, but do not understand why that is so, or what it means, particularly, for their final pension pot. That is why the pensions industry and the financial media will carefully watch our deliberations today. Perhaps the complexity of the issue means that many people are unable to understand and see the purpose of it, or why it matters so much. That may well be an indication of why Members are present today.
It is right for there to be constant demands for transparency about pension fund investments, as the hon. Member for Dagenham and Rainham (Jon Cruddas) highlighted in an Adjournment debate last year, and transparency about pension charges should be no different. It is easy for us, as politicians, to exhort that everyone should save for retirement—they are easy words. We want people to do that to be able to provide for themselves when they are older. In Government, it is easy and clear, with our experts to advise us, to see why that matters and why money put away when we are young matters more as we get older. The biggest challenge for the Government and the pensions industry is to overcome consumers’ attitude towards pensions—only half of working adults between the ages of 20 and 64 are currently saving for retirement.
Although the biggest reason given by consumers for the lack of saving is their inability to afford the contributions required to build a pension pot, there are other interesting underlying problems. A quarter of respondents in a study by the National Association of Pension Funds stated that they did not trust the pensions industry. Other surveys indicate that 80% of people want greater transparency about how pensions operate and what they cost. Although research conducted by a pension provider, Aviva, suggests that only 2% of people cite charges as the single prohibitive factor preventing them from investing in a pension, the proportion rises to a worryingly staggering 20% for the under-24 age group.
Can we assume that the lack of transparency about pension charges, alongside a misunderstanding about the system of charges, is a fundamental problem holding back a wider retirement savings culture? If so, it is particularly pronounced among the lowest age groups and lowest earners. We need to target the transparency at the new generation of workers, whom we need to get saving as soon as they enter the workplace.
My position in today’s debate is not to focus or comment either way on the level of charges; it is for the companies that provide pensions and advice on pensions to argue why their charges are at a particular level when the charges of others are at another. The point of today’s debate is to highlight the need to be able to compare and understand charges and costs.
Mr Gregory Campbell (East Londonderry) (DUP)
I congratulate the hon. Gentleman on securing the debate. Regarding the lack of transparency about charges, we sometimes see what I believe to be helpful information in the financial press. We should push companies to ensure that they provide information on the impact that those charges will have, year on year, on the final pension received by a payee.
The point that needs to be clarified is the effect that charges will have at the age a person retires—60, 65 or 68; it is not just about making sure that the charges are transparent. Surely, if the ongoing and year-on-year impact of those charges were transparent, there would be a huge impact on a person’s choice of company.
Brandon Lewis
The hon. Gentleman makes a good point, and I will touch on it later. I fully agree that one of the issues that people do not understand is that a figure that seems small now can have a huge impact on how a pension pays out later on—up to 25%, as I will touch on later. The hon. Gentleman is absolutely right. That is exactly the clarity and understanding that we need.
Provident Financial’s clients are low earners, who often borrow just £100 or less to get through to the end of the month. The company told me recently that the issue for many of them is not so much about whether they can save. They may be able to save only a small amount; I know that the Minister appreciates that, because we have had a conversation about it. In some cases, it could even be just a few pounds a week or month. However, all that money can add up to mean something later.
The hurdle that those customers find is psychological. The company said to me that people who are on the lowest incomes understand and learn how to manage their money and how to get their family through a week or a month. Within that, they will still do certain things—£1 or £2 a week on sweets for the children, or something like that. What they do not do is trust an unnamed and unknown big organisation with some of their money, because it is complicated and there is no face to it. That is why they use organisations such as Provident Financial rather than high street banks.
By dealing with the issue of transparency, we may well be able to break through that psychological barrier and get more people saving. If the industry is clearer and puts things across more simply, it will instil more confidence in the customers that it is looking to pick up. I will return to that with a clear example in a moment.
The system is complex. People’s underlying attitude is unsurprising, given that we have such a diverse and complex pensions industry, with a wide range of schemes and options alongside an array of different regulatory regimes. A wide range of items may be included in pension charges—and alas, with no clear industry standard at the moment, providers often differ on what is included. Just to name a few, any or all the following may be included: product management, communications, services, administration, regulatory requirements, some investment management and, possibly, the cost of providing advice. How can any consumer find an easy way to compare like with like when there is such a range of options and figures printed on a statement? It is simply not possible.
Jim Shannon (Strangford) (DUP)
I, too, congratulate the hon. Gentleman on bringing the matter to the House today. We need clarity about hidden charges—charges that people do not know are being made and which are removed from people’s funding regularly—and about sales commission. There are often hidden charges before someone can leave a scheme.
There is also excessive trading in respect of those who are trying to keep on top of the portfolio; there is a charge every time that happens, and customers do not know that. There are a lot of hidden charges that customers do not know about. Does the hon. Gentleman think that such charges should be made known to the pension holder, so that they are aware of the costs involved?
Brandon Lewis
It is absolutely right that as much as possible should be transparent—potentially, everything should be as transparent as possible. The hon. Gentleman is right. As I will come on to say, people do not necessarily understand that when they come out of certain schemes or change jobs, the potential cost to them can as much as double. The costs are effectively hidden, because they are not clear or transparent at the time of entry, let alone of exit. That is why we need regular transparency. I will touch on that further in a moment.
It does not seem possible to find an easy way of comparing like with like. Just last week, the Work and Pensions Committee was taking evidence on pensions and it became very clear from looking at different operations that there are major variations in style between companies. What highlighted the issue of transparency for me more than anything was the fact that one company said that the simplicity and transparency of its charges is its single biggest marketing advantage. If Members will bear with me, I will read a short quote from that session. Adrian Boulding of Legal & General, which I congratulate for having this kind of transparent operation, said to the Committee:
“We compete on price in the market place and we are able to do that because we have invested heavily in technology. If I look at pension schemes that we have sold this year, they have all been sold within a price range of 0.3% at the bottom to 0.8% at the top. 90% of them have been sold at 0.5% or less.”
Again, that is a range of figures that many people will struggle to understand. However, Mr Boulding went on to say:
“One of the particular features of our pitch to the market is that we charge just a single charge for the scheme, whereas some providers now want to charge £1.50 in addition to a fund management charge. NEST charges a contribution charged at 1.8% in addition to a fund management charge. Some insurance companies charge higher fund management charges when people leave the scheme. We charge a simple, straight fund management charge and it is the same for all members whether they are in the scheme or whether they have left, and there is only the one charge. We find that gives us an edge in the market place.”
It was interesting that a company specifically said that the simplicity of its charging—it only has a single charge—was its marketing edge.
What is included in the charge element of a pension fund varies, but the inconsistency in how charges are communicated is an additional complicating factor. In fact, the wide range of approaches is needlessly complicated. Some pensions are regulated by the Financial Services Authority and require an illustration of the effects of charges. Other pensions, mainly those that are trust-based, have no requirement for such disclosure. The stakeholder pensions were introduced in 2001 and I credit the previous Government for introducing something that provided some simplicity and clarity. Stakeholder pensions require disclosure of individual deductions.
The lack of comprehensive and consistent information prevents effective monitoring by the FSA, the pensions regulator, and, potentially, by the Department of Work and Pensions itself. We risk creating a regulatory black hole if we fail to create a clear communications framework. That is why there is also a need to specify which regulator covers which area and to define regulators’ powers to avoid market confusion over which regulator covers which issue—let alone confusion among consumers or among the employers that are implementing a scheme.
The approach taken by different pension providers and schemes also varies widely, as the National Association of Pension Funds has helpfully highlighted. Some providers quote an annual management charge as a percentage; others illustrate the effect in cash terms. Some present information in a personalised form, where charges are illustrated in a very varied way over different periods, whereas others provide information with a generic example. In some cases, the information is prominent, but in others it can be hard to find. In some cases, there are even charges for different parts of the process—for example, fund management prices can be shown separately.
We should compare the pensions sector with the banking sector, in which statements now clearly show what bank charges are on a weekly or monthly basis. The example of the banking sector is certainly one that the pensions sector should look at.
There is also financial jargon, which is unhelpful in any industry. If the range of charges and the communications about those charges are inconsistent, a pensions fog is created, and the impenetrable financial jargon that consumers must navigate has created a further consumer whiteout. In fact, I have used much of that jargon in my opening remarks today. I want to illustrate that point by giving two real-life examples, courtesy of the National Association of Pension Funds. They highlight how difficult it is for any consumer or business to understand what they are taking on with pensions. The first example is taken from a handbook provided to employees on a trust-based scheme. The handbook says:
“The manager’s charges differ according to the type of fund. The charges are made within the fund and are reflected in the price of fund units. With some funds, two unit prices are shown - the “bid” price, at which units are sold, and the “offer” price, at which units are bought; the difference - the “bid/offer spread” - reflects the manager’s dealing costs. The bid/offer spread on these funds vary.”
Then there is an impenetrable table listing six funds, showing for each one:
“a percentage annual charge on fund and a percentage bid/offer spread”.
Just looking around the Chamber now, I can see that Members are already somewhat glazing over with the difficulty of trying to understand what we ask ordinary people to understand in their daily lives.
Richard Graham (Gloucester) (Con)
I congratulate my hon. Friend on securing this debate on a really important topic and on building a strong case for transparency and clear communications. Does he think that the example that he has just given proves the point that Einstein used to make when he said, “If you can’t explain something to your grandmother, you probably don’t really understand it”?
Brandon Lewis
My hon. Friend has just summed things up with exactly the sort of clarity that we need in pensions charges, and I agree entirely with him.
Let me further enhance that point by giving another example, which is from a different type of scheme: a contract-based scheme. The quotation comes from a block of text headed “Additional expenses” that goes into a pension fund member’s handbook:
“Additional expenses such as trustees’, registrars’, auditors’ and regulators’ fees may be deducted from some investment-linked funds. In addition, where the [name of insurer] investment-linked fund links to a Fund of Funds (a fund that holds other underlying funds as its investments) the additional expenses may also include the cost of managing the underlying funds. Where these expenses arise within the fund they have been taken into account in the calculation of the unit price. Details of the Annual Management Charge and any Additional Expenses can be obtained from your [insurance company] Pension Pack.”
I assure Members that that is not an excerpt from a Monty Python sketch. It is, however, what people are having to deal with, and it is absolutely no wonder that consumers are confused and indeed suspicious of pensions when they are presented with information in such an opaque, complicated and almost incomprehensible fashion.
As I have already mentioned, many other financial products—such as mortgages and loans—now present information in a much clearer way, generally as a result of consumer pressure. I hope that similar consumer pressure will be brought to bear on the pensions industry.
It is rare for pension providers or schemes to show the actual cash amount of charges on an individual statement. Surely that would be the clearest way to provide vital information that the majority of people can understand. It is time to move away from a too long and too complicated explanation of charges towards greater clarity and understanding.
I have experience of being responsible for a company’s pension scheme. In that scheme, people had to contribute nothing themselves but they were given money by the company to enter the scheme. That money did not come from their salaries; it was money over and above their salaries. However, on far too many occasions, even educated people with degrees turned the scheme down. When we asked advisers why that happened, we heard on a number of occasions that it was because people simply do not trust the forms or the companies, and they do not want to get into filling in forms and giving things away. They do not understand that, as in the case of my former company’s pension scheme, it is about effectively trying to give them money; they still turn the money down. The system is so complicated that it puts people off, even people who are highly educated.
The problems that the system creates and the benefits of reforming it are what I will turn to next. The introduction of auto-enrolment next year will see between 10 million and 11 million extra employees being given access to a workplace pension. The Government’s aim is the provision of low-cost pension options for savers, yet consumers’ suspicion or wariness of pensions means that there is a risk of a high opt-out rate, which is something that we all obviously want to avoid. We must avoid exacerbating the problem because charges and their structure are difficult for people to understand.
Small businesses particularly face that problem. The complexity of schemes for businesses to choose from could risk disengagement by employers. At this point, I must congratulate the Federation of Small Businesses on considering establishing its own pension scheme. It understands that there is an onus on companies, particularly small and medium-sized enterprises, to do something. However, those SMEs are not only worried about the potential cost of auto-enrolment; in many cases, they see their staff as being part of a family. They care about their staff and want to provide the best for them, so they will want to ensure that they are making the best offer, the best investment and the best decision for their staff. They do not necessarily have the time to become involved with a range of pension providers but they know and trust the FSB, because they are members of it, so the idea that the FSB itself should have a brand of pension for SMEs to be part of makes a lot of sense.
For many businesses, independent financial advice will be unaffordable and, as I have just said, they will not have the time or expertise to cut through what can be a dense, even impenetrable, amount of financial information. Transparency can lead to better decision making on behalf of employees.
Much of our discussion today is about the information provided when someone joins a scheme, yet there is often scant information about what happens once they are involved in a scheme, as has already been touched on by Members. The lack of comprehensive information does nothing to reassure consumers, and it means that funds are under no pressure to demonstrate value for money and that much further down the line people can be in for a shock when they see where their pension stands, because of the charges. I agree with the sentiment expressed by Aviva, which said that focusing entirely on charges might be
“counterproductive and risks deterring a generation of new savers.”
In terms of what those charges are, I think that Aviva is right, and in terms of making sure that the charges are understandable, we still have an important job to do.
We need to see that charges provide value for money and flexibility, and to do that we need to see what the charges are in a way we can all understand. We need to see whether members can receive value for money if a charge is very low, because the very best pension fund operators might not see that as a viable option for their involvement. Although I want to see the lowest possible charges for consumers, to encourage as many of them as possible to invest and have the best return on their money, we also must ensure that they and their employers receive adequate and proper advice, otherwise it might be that only higher-end earners will get the advice they need and want—and, indeed, pay for. There needs to be an industry culture of charges reflecting the cost and value of the services provided, but providers must continue to find ways to offer better value for money, which means finding additional efficiencies, using new technologies as Legal & General has outlined, and improving processes.
I believe that providing clear financial information using a pounds and pence principle will exert sideways pressure on schemes to maximise value for money. Showing consumers and employers what the bottom line in charges is allows them more easily to compare schemes. With a whole range of products, whether it is high street banking and its charges or anything else we want to buy, we are generally able to go out into the marketplace and find an easy way to compare like with like, and decide if we want to invest in a more expensive or a lower-cost product. If we are looking for the latter, we can see the range of offers from various companies, understand them and make an informed decision about where to invest and what to purchase. With pensions, it is extremely difficult to find like-for-like offers, and when employers have a range of things to do, including running their businesses, this is one more thing that we must make simpler for them.
I have thus far focused on companies, and on information being given to companies that run schemes, but we must not forget the wide range of people out there who have personal pension schemes. There are people at the higher end who can pay advisers whom they trust to make the best decisions, but there are other consumers who have gone to the trouble of taking out their own pensions who are not necessarily at the highest end and able to pay high-value advisers. Nevertheless, they need good pensions, and they need to have faith in them and understand them. We need clarity and transparency so that end-users—consumers—can see what the cost of their pension is when they get their statement, not just when they first enter a scheme but potentially on an annual basis.
I want to turn to what the Government can do. What options are available to Ministers to create a new culture of charge transparency? I argue for a very light-touch approach from the Government. Their role in this transformation should be to guide, encourage and motivate the process, and resorting to regulation or further legislation must be a final option. The introduction of auto-enrolment will mean that the national employment savings trust will become the default option for many. Although we should welcome NEST’s role in pension provision, we must also remember that it is just another provider, and is neither designed nor suitable for everyone. I hope that its existence will assist in driving down charges across the sector, but its own charging structure is not a simple model and I am interested in the Minister’s view on how we can move that forward.
I hope that, even though NEST provides a low-cost option, Ministers will press for greater transparency across the sector, so that there will be benefits of transparency also for people for whom NEST is not the most suitable option. NEST will not necessarily attract higher earners or employees who require a larger choice of investment funds and greater contribution levels, but those people equally need greater charge clarity. NEST will not pick up many seasonal workers or low earners who fall below the threshold, many of whom could be women who work part-time due to child care issues, and we must do more to simplify and open up the system to give them an option to save, if only a few pounds each week. The system needs simplicity and clarity if it is to have a chance of encouraging a wider range of people to come into saving.
I am interested to hear from the Minister how he thinks the Government can encourage transparency, how he thinks charges can be set out clearly and in terms readily understood by savers, and whether he believes, as I do, that this approach should apply equally to contract-based and trust-based pensions, where there are currently no requirements for charges to be disclosed to savers. Will he also outline how his Department plans to provide guidance to consumers and employers ahead of the introduction of auto-enrolment? It is important that we take every opportunity to raise this issue and to clarify the matter.
Employers have a crucial role. They must be fully aware of the costs and charges associated with the workplace schemes for which they will effectively be responsible for their employees. In evidence to the Work and Pensions Committee last week, it was indicated that the code of practice, at least in the first period, will be aimed at giving clarity of evidence and information to employers, so that they can make decisions about the scheme for their staff, rather than directly to the end-user or consumer, and in the long term that will not be enough. We need the clarity and transparency to go right through to the end client. Legal & General has managed it, and we need to ensure that we get it across the sector. Will the Minister also comment on the suggestion by Which? that pensions should be benchmarked against NEST to assure value for money?
Several organisations, including Which?, have expressed concern about active member discounts, which are schemes that have a low charge for people who are actively contributing but in which the charge increases, often significantly, once someone moves job or goes on maternity or paternity leave. That issue was touched on in an intervention earlier. I have heard it expressed that this is more of an inactive member penalty, and should be seen as such. It is potentially one of the biggest issues facing pension costs, and it should be addressed. Again, it can particularly affect women who take a break from work due to child care issues, and low earners who can be out of work for periods of time.
I am particularly concerned about the increase in charges levied by some insurance companies for people who change jobs, and transparency can help to deal with that as well. Which? research has found that some companies have an annual management charge of between 0.5% and 0.7% for active members, but that once someone leaves a company the charge can double. Such high charges could have a big impact on the pension received by the consumer at the end of the scheme, with their pension potentially reduced by up to 25%.
Although I would like to see a commitment from the Government to clarify the governance and regulation of charges, I have mentioned the desirability of a light-touch approach from Government and the impetus for change must come from the industry. The National Association of Pension Funds has taken the lead in responding to the challenge to simplify the communication of charges. Earlier this autumn, it initiated an industry-wide discussion on the preparation of a voluntary code of practice on transparency of fees and charges, which resulted in the establishment of a working group to pursue that goal. I believe that only this morning the working group met to discuss how charges will be presented to employers in future, and I look forward to hearing about that discussion in greater detail.
That is exactly the responsible industry-led attitude that Minsters will be, and I am sure are, encouraging, and I hope that both Her Majesty’s Treasury and the Department for Work and Pensions are able to play an active role in the process. The heavy hand of further statutory regulation or additional legislation should be pursued only if this process fails or proves unsatisfactory. I hope that a new code of practice is agreed and adopted across the pensions sector by next spring, ahead of the introduction of auto-enrolment later in the year, but we must ensure that we are able to move gradually and, potentially, as quickly as possible to ensure that the clarity that is needed and that the industry is now working on developing can be provided not just to employers operating schemes but to end-users.
Although that step initiated by the industry and the NAPF is very good news, it is not the total solution. For that we need simplicity in the statements, to give clear figures to pension holders of the cost of their pensions on an ongoing basis, going right through to the end client and not just to the employer running a scheme. For consumers, employers and the pension industry itself it is vital that the Government clarify the existing regulation of charges and encourage that transparency. Failure to do so will risk a return to the mis-selling scandals of recent decades and a drain on the new auto-enrolment scheme as employees opt out of the scheme chosen on their behalf. Most importantly, it will risk a massive loss of consumer confidence, jeopardising the radical reform necessary to secure the future retirement of millions.
Across Departments and local government, we have found that the transparency agenda has had a cleansing action. Costs have been cut, people are more aware of what is going on and confidence can be rebuilt. It is the most cleansing initiative before us today, and Government have taken that on board. I argue that the pension industry should also take transparency on board as a way to clarify the issue to restore, rebuild and develop confidence in the pension industry, so that people will save more to provide for their future when they retire.
Jenny Willott (Cardiff Central) (LD)
I congratulate the hon. Member for Great Yarmouth (Brandon Lewis) on his comprehensive speech, which covered a wide range of issues. I think that we would all agree that transparency is generally a good thing, and he gave lots of good reasons why, including some apposite examples of the problems created by lack of transparency, which we have probably all experienced.
Following on from the points that the hon. Gentleman raised, I have a couple of issues to highlight. Transparency in itself is not necessarily enough. He mentioned the introduction of auto-enrolment and the fact that across the House, we all want more people to save and we want auto-enrolment to be a success. Part of that will involve transparency, ease of use and so on, but there are also financial implications. People’s take-home pay will be reduced at a time of difficult economic circumstances. We must overcome that and encourage people to understand that it is good to save for retirement. As he said, in some cases, free money is being offered to employees, yet they still do not take up the pension.
We need to overcome that significant hurdle in British society and get people to think more seriously about long-term saving. Part of that involves financial literacy and education. A lot of the problem is that people do not understand what they need to do, and as the hon. Gentleman said, they are bamboozled by a lot of the information that they receive. I am concerned that even with transparency about charges, which I support, people will still be confused if they do not understand what they are looking at. Many people do not understand compound interest or the compounding effect of charges; 0.8% sounds extremely small, but over the lifetime of a pension, it can be a significant amount of money. People simply do not understand what they are looking at. He is right that there might be many ways to present the information to make it more useful and practical in making a decision, but we must also ensure that people know what they are looking at and understand how it relates to the choices before them.
It is not just transparency of charges that is important but transparency about the range of different products from which people can choose and how their individual characteristics should inform the choice that they make. For example, as the hon. Gentleman said, are they male or female? Are they likely to take maternity leave or a career break? Are they self-employed, which might cause their income to rise and fall? Do they have a shorter life expectancy, for any one of various reasons? All those things affect what products are most appropriate. More transparency and more information are needed, so that people can make well-informed decisions about the best products for them.
We must also ensure that people are aware of the risks associated with different products, including charges and investment risk. Investment risk is often not explained properly, so people are not really aware of what they are signing up to. I have a couple of different random pensions—very small pots—from previous employment, as probably a lot of people my age do. I am not saving in them any more, but I get an annual statement telling me that I have lost a huge amount of money over the past year because the stock market has gone down.
Such information will not encourage people to save unless it is put in context and they understand the bigger picture and their long-term goal. We must ensure that it is put in context and that people understand all the different elements. A lot of that will involve education in schools to give people much better financial literacy at a much earlier age. A whole generation of people are going into employment who do not really understand anything to do with pensions, savings, debt, credit cards and so on. We must do much better. A lot of good work is going on in schools, but we must ensure that that is done as well as improving transparency, so that people know what they are looking at when they get better information.
I would like more transparency about the investment side of pensions, as that might encourage people to save. Foreign pension funds have been investing heavily in UK infrastructure during the past couple of years, but so far UK pension funds have not done the same. Moves are afoot to encourage them to do so, but a number of UK pension funds invest in less ethical concerns such as extraction industries, weapons manufacture and so on. That has an impact on people’s choices about whether to save and which company to save with.
If we had transparency about where money was invested, fund managers would have to provide more information, so that people could see where their money was being invested and possibly move it around, thus making better use of their consumer power to encourage fund managers to invest where people want them to invest. That could encourage more people to save, particularly young people. I have many students in my constituency. For a lot of young people, ethical investment is a big issue. If they are to sacrifice some of their salary and tie it up for many decades to come, they want to know that that money will be used for good while it is invested by other companies. Better transparency would let people know where their money is, so that they can see what is being achieved with the investment of the money that they are saving. That would encourage more people to save as well.
We must be careful not to make the situation worse. One reason why annual statements are so complicated is that there is an awful lot of regulation about what information must be provided. When people get the annual statement for their private pension, stakeholder pension or whatever, they get a huge pile of bumf that goes with it, including lots of models showing how much they will get if they retire at 65 and what will happen if they carry on saving at this rate or if the market goes to this or that level. It is all useful information, designed to help people be better informed, but it switches many people off because there is too much detail. In theory, it is helpful, but actually, it can be counterproductive.
I agree completely with the hon. Member for Great Yarmouth that we must be careful about light-touch regulation. We must not be too prescriptive and must not just lay on more regulation, saying that more information must be provided, making the situation worse. We all want people to be able to see what they are investing in and to save more for the future. We need transparency to make that happen, but it should be done proportionately, assist people to see what they are investing in and encourage them to put money aside.
David Mowat (Warrington South) (Con)
I, too, congratulate my hon. Friend the Member for Great Yarmouth (Brandon Lewis) on leading the charge. During his remarks, he distinguished between the need for transparency and the absolute cost. I contend—I will talk a bit about the absolute cost—that there has been a market failure in the UK pensions industry over the past two decades. That market failure is having a significant impact on the private sector propensity to save. Fewer than half of people working in the private sector now contribute to a pension fund. Transparency and cost are symptoms of the market failure.
To give some numbers, the Financial Services Authority estimated this month that some 31% of private sector pension pots go to fees. That is not surprising, because fees are, roughly speaking, 1.5% to 2%. Most pension funds aim for retail prices index plus 3.5% to 4%, so 50% of the real return is budgeted to go in fees. When things are difficult, as they have been over the past couple of years, the reality is that the figures are much worse, and absolute returns fall.
The real issue is that the private pensions industry is massively subsidised, and it would be hard to find an industry in the UK that is subsidised to the same extent. The Government pays something in the order of £40 billion a year into the industry to keep it going in the way that it has come to expect.
As I said, we have a chronic market failure, which has a number of unpleasant consequences, and I want to explore a little how that market failure has arisen. Principally, it is an issue of complexity; we have complete asymmetry of information between pension fund users and the funds themselves, and my hon. Friend gave a number of the excellent examples.
The consequence is that a whole industry of financial advisers has grown up to act as an intermediary between these complex pension funds and the average employee or punter. The difficulty, of course, is that the commission structure that was put in place has seriously compromised financial advisers’ independence. I congratulate the previous Government on what they did on the retail distribution review, and I hope this Government will push forward quickly to introduce it, because it is one of the things that must happen.
This market failure has also been caused by barriers to entry, which are a classic reason for market failure. Funds can charge fees of 1.5%, 2% or more in some cases because new entrants are not coming into the market with the velocity that we would expect. That, too, is to do with the industry’s structure, and it is for the Government to encourage changes. When I was reflecting on the debate this morning, I looked at one platform and found 5,000 funds were available to me. They were provided by something like 45 different suppliers. The industry has not consolidated, because it has not been forced to and it is not subject to commercial pressure. The consequence is that fees have been too high, with all that that means for the private sector take-up of schemes.
At the heart of this issue is a lack of transparency. Transparency can mean different things at different times, but there is a lack of understanding and comparability. Let me mention a number of the different charges that I know of, although there may be many others. There are annual charges, entrance charges and exit charges. A new one, which a number of companies are using, relates to churn. The average pension fund—this is an extraordinary statistic—has a churn rate of 128%, which means that it turns over the equities that it invests in by 128% in one year. That generates charges and income, and all that goes with that. Warren Buffett advises people to spend 10 to 15 years in an equity, and it is not clear why pension funds are churning to the extent they are, unless that is to generate revenue for themselves.
There is the new platform charge, but I will not go into that, given the time. I have not even talked about the way the charge structure for annuities works or the degree to which annuity advice is independent. The new super-charge has also come in. Companies are trying to get this trailing charge through before the RDR comes in, which is why we need to push ahead with it. Advisers are signed up for a trailing fee for many years into the future on the basis that they continue to have some kind of contact with the punter, even though about 50% or 60% of them never see the punter again. It is very difficult to bring transparency into such a charging structure and to provide for comparability, but we must try.
What are the consequences of this market failure? We can look at that in three ways: the consequences for the industry, the punter and the Government. This morning, I looked at Hargreaves Lansdown, which has about 500 employees, and the mean salary for one of its directors is £1.5 million per annum—nice business if you can get it.
What does market failure mean for the consumer? We have talked a little about that. Over the past 15 years, the average consumer in a private sector pension fund has had a return of 4.2% per annum. Broadly speaking, that is a bit better than the yield in the FTSE—that is the sort of return that consumers have managed to achieve after charges.
The consequence is that there is a massive lack of confidence in the pension industry. I know a lot of people who know that they should invest for the future and that they should put money aside, although they are in their 40s or 50s, so it is possibly too late. They do not do so, however, because they mistrust the industry. The fact that there is tax relief and that a lot of this money is free is lost because there is such distrust towards the industry, and I am not sure that people are totally wrong to feel like that.
The recent report from Lord McFall said that the median pension pot for a private sector person in their 40s or 50s is £35,000, which translates, even if built up, into a pension of less than £2,000 a year. Those are the consequences for the punter of this market failure, which has been caused by the lack of transparency.
The consequences for the Government are also pretty serious. We are getting an under-pensioned populace, despite the fact the Government are subsidising the industry to the tune of £30 billion to £40 billion per annum. Superimposed on that is the honest attempt to fix the problem with pensioning through the auto-enrolment scheme. However, that will actually result in a further subsidy and a further inflow of funds to the industry. Unless, it comes at the same time as reform, we will continue to see the current market abuse.
What should the Government do? We have talked about the need for simplification. As I listened to my hon. Friend’s examples, I was reminded of the debate we had in the main Chamber about the energy companies and the need for transparency on energy tariffs. We heard that it was not possible properly to compare energy tariffs because they were so complex, so people did not know when and when not to switch. Frankly, the situation before us is analogous, but arguably more serious, because the amounts of money involved are much greater.
My hon. Friend gave us some sensible ideas about simplification, and the Government should think hard about them. There must be a way of doing things more simply. The Government might wish to look at the experience in other European countries, because there are better markets and rates are lower in many of them.
I have talked about the need for the RDR to go ahead at speed. I would like to ensure that that happens and that the review is not delayed, as it has occasionally been rumoured to be.
The Government should think hard about a cap for the pension funds that are permitted to be part of the NEST system. Under the stakeholder pension brought in by the previous Government, there was a cap of 1%, with a cap of 1.5% in the medium term, and that is probably justified. When an industry is not operating in a free market because it is as heavily subsidised, as this one is, it is reasonable for the Government to think in those terms. Indeed, this does not sound like a very free-market solution, but most of the people who join auto-enrolment will need a very simple tracker fund based on the FTSE, and there are all sorts of ways that could be achieved. There are several funds in Europe with charges of the order of 0.08% for a thing like that, and I think that the Government might want to think about different ways to achieve it.
I have not talked much about annuities, but the problem with respect to the market failure in annuities is that 75% of people who purchase them buy them from their pension provider. There may not be anything wrong with that, if it is the best deal, but the truth is that there is a huge difference between good and bad annuity rates. The Government should require pension advisers to ensure that at least three different quotations are given before a customer can take an annuity from the provider.
I want to touch briefly on one other final cause of the market failure. I am a trustee of the House of Commons pension fund. It is clear to me as a trustee that there is a tendency to be quite conservative about things. The only downside for a trustee, in relation to the possibility of being in breach of trust, is the potential for doing something risky. Most pension funds should buy assets—buy shares—themselves. They should not do that through funds and lose 2%, but there is no incentive for trustees to act in that way. In fact, all the incentives are for them to act in the opposite way. I used to work in the IT industry, where people used to say, “No one ever got fired for hiring IBM.” Trustees have a similar characteristic, and that is a contributory factor to the market failure that I have talked about, which is causing so much difficulty now.
The Government have a big issue to deal with—I shall not call it a scandal—to do with transparency and practices that it would be reasonable to call anti-competitive. The country is under-pensioned, which will cause severe problems in the next four decades. There is a need to look hard, as a matter of Government policy, at getting confidence and zeal back into the industry, so I wish the Minister well.
Gregg McClymont (Cumbernauld, Kilsyth and Kirkintilloch East) (Lab)
I congratulate the hon. Member for Great Yarmouth (Brandon Lewis) on calling the debate. There is no doubt that costs and charges are one of the biggest issues in pensions. I welcome the fact that the National Association of Pension Funds called an industry summit on 23 November, to discuss transparency. However, as the speeches of the hon. Members for Cardiff Central (Jenny Willott) and for Warrington South (David Mowat) suggested, it is not clear that transparency in itself will be sufficient to tackle excessive costs and charges. In the past month and a half, I have spoken to many stakeholders in the pension sector, and I am grateful to them for the time and effort that they have put into those meetings. I am also grateful to them for the candour with which they described the industry’s situation.
The hon. Member for Great Yarmouth rightly raised the question of complexity. The focus on transparency is important; but I want to pose two or three questions or observations about whether transparency will be sufficient. First—I think that this was touched on by the hon. Member for Warrington South—even with greater transparency, some pensions are inherently complex. We might even say that they are brain-numbing. There is a complexity to them that is not apparent in some other financial services. It is worth emphasising the extent of the challenge that the Minister, the Government and the country face with pensions. Some of the figures have been mentioned already, and without going into the specifics, I think that we can say pretty straightforwardly that many people—more than 40%—are not saving anything at all. Of the rest—those who are saving—many are not saving enough, related to which is something that was mentioned a moment ago by the hon. Member for Warrington South: annuities. Annuity rates are pretty eye-boggling. We know the reasons for that: the downward pressure on bond yields and gilt markets, in particular, and longevity. However, when those issues are taken together, it becomes clear that the country faces a huge challenge in the pensions sector.
We know from the findings of Lord McFall’s workplace retirement income commission that there is poor transparency about costs and charges. Worryingly, Lord McFall found:
“Disclosure around costs and charges remains inconsistent across schemes and providers. What is consistent, though, is the opacity of that disclosure.”
I can only endorse the report’s recommendation. Lord McFall suggests:
“All schemes should be required to disclose costs and charges in a way that is transparent for consumers and which shows the cash impact of charges on the pension pot. The industry should develop a code of good practice on this issue and the government should monitor this and consider taking regulatory action if standards are not improved.”
So far, so good. I have in my mind the market failure emphasised by the hon. Member for Warrington South. The issue arises whether, as we go on, market failure will be solved even by something as worth while as a code of conduct.
The hon. Member for Great Yarmouth also mentioned active member discounts, and transparency about them would be beneficial. As he said, those discounts can better be described as deferred member penalties. Given the reality of the modern British labour market, in which according to Department for Work and Pensions figures the average person has 11 different jobs during their working life, the size of penalties imposed on deferred members is a key piece of information. The proposed costs should be highlighted and made clear. The consumer organisation Which? tells me that past and deferred employees may face charges up to three times higher than those for active members. In its estimation, that could reduce the value of those pensions by up to 25%. I accept that there is an administrative cost to pensions to which deferred members no longer actively contribute, but it is far from clear to me that the costs should be as high as they can sometimes be—for example, a recurring charge of 1.5%.
Transparency is clearly important in the context of auto-enrolment, because fees and charges will be critical if auto-enrolment is to be a success. The Minister knows that I am disappointed at the delaying of the timetable for auto-enrolment for small businesses. I look forward to hearing, sooner rather than later, what is to happen to businesses of between 50 and 300 employees.
There is a simple, wider point to make about the national employment savings trust and auto-enrolment: many employers that are engaging with auto-enrolment will be new to pensions and need clear and straightforward information if they are to pick the best value pension for their staff. In that context, I back another recommendation of Lord McFall’s workplace retirement income commission; this point relates precisely to something that the hon. Member for Warrington South said. Charge caps should apply to all schemes that will be eligible for auto-enrolment. The Government must not wait on market failure to act. It is simply too important that auto-enrolment should succeed, because the country faces a huge range of pensions issues. We must ensure that auto-enrolment has every chance of succeeding, and a charge cap on all schemes is important in that respect.
Auto-enrolment is aimed at a low-earning work force who have, largely, not so far contributed to pensions. As other hon. Members have suggested, that is partly because of a lack of confidence in pension products altogether. If we permit confidence to be damaged, because auto-enrolment does not succeed, many people could opt out, which would jeopardise auto-enrolment. There was some consensus about that from the hon. Member for Cardiff Central and the hon. Member for Warrington South. Once that opt-out happens, it is difficult to put the genie back in the bottle.
Greater transparency is an ambition on which everyone seems to agree, but I do not share the view of the hon. Member for Great Yarmouth—I hope I am not misrepresenting it—that transparency will be enough to ensure a fit-for-purpose pensions industry. There is some consensus that a long-standing industry in which the market has not already required transparency of market providers is likely to have a structural problem. The absence of transparency in our pension costs and charges is likely to be a symptom of the problem, not its cause. First, we have inherent complexity, even with transparency. Secondly, we face a challenge in relation to the number of people who do not save and the even larger number who do not save enough. Thirdly, and more widely, returns on pension contributions are an issue.
The hon. Member for Cardiff Central has emphasised the importance of financial literacy. I have had many discussions with the industry and stakeholders, who emphasise that such literacy is beneficial. I cannot imagine that anyone is against greater financial literacy, but I reiterate that, even with financial literacy, pensions remain complex. It is worth conducting a thought experiment: what would an enlightened and informed British consumer and voter observe of the UK pensions world? I suggest that they would observe that there is a big difference in costs and outcomes between UK defined benefit schemes and defined contribution schemes, even where the sums paid in by employer and employee are comparable. Historically, that may have mattered less when DB schemes were in the ascendancy. It matters much more now that DC and, in particular, contract-based DC schemes are becoming such a significant part of provision.
If the enlightened and informed consumer—this point has already been touched on—were to look around the European Union as a single market, as it encourages us to do so, he or she might be surprised to find that annual charges could be as low as 0.04% a year for an occupational pension provided by ATP in Denmark. The enlightened and informed consumer-voter could hardly fail to be pretty unhappy if he or she were contributing to a UK contract-based DC scheme in the knowledge that they could make the same contributions as someone else but receive thousands of pounds less per year in income than someone in the Danish scheme. I am told by some people that there is no issue concerning charges in the UK, because many are less than 1% per annum. That may be true, but there is a big difference on a compound basis between an annual charge of 0.3% and one of, say, 0.7%. Our very best practice is therefore still much worse than the Danish best practice.
The structure of the UK pensions industry impedes it from responding effectively to consumer unhappiness, and that unhappiness has been powerfully articulated by other Members. However much it might wish to do so, the industry cannot respond, because of the structure. Scale is important in that regard. We need a scaling up of the pensions industry, but there are two major impediments to acquiring scale in DC provision. It is worth pointing out that the UK has a striking number of pension fund providers compared with Europe as a whole and that disaggregation is significant in terms of structural impediments. The first major impediment is that the law impedes the creation of super-trusts or collective DC schemes. The second, I am sometimes told, is that employers and employees might be reluctant to move to collective DC schemes.
Defined contribution is where the action is increasingly at. There is a consensus, I think, more or less across the board that DB schemes, while still of great importance to those who are enrolled in them, will be of less significance than DC schemes in future. The question is about how to make DC work better.
The Government can remove the first impediment in relation to the creation of super-trusts and the legal framework. The Minister has talked favourably in the past about re-examining the case for super-trusts and collective DC schemes. I strongly encourage him to do so.
On the second impediment, some tell me that employers want to retain pension schemes that are clearly linked to each of them alone and are not shared—that is, not collective DC. That is not the view of the National Association of Pension Funds, which has supported super-trusts, nor is it mine. I am sceptical of the view that, if a firm has opted for a contract-based DC scheme, it will be opposed to collective DC. After all, it will already have opted to move away from maintaining a fiduciary relationship. In any event, that is an argument not against making collective DC or super-trusts available, but for ensuring that there are other options.
It has been suggested that employees would not be in favour of collective DCs, because they prefer schemes where they obviously do not share risk. Again, I am sceptical. I suspect that, on average, the informed and enlightened consumer, if invited to choose between the stone-cold certainty of losing a large chunk of his or her pension pot—as is often the case at the moment—and only possibly running the risk of losing some of it, would tend to prefer the latter. The largest known revision from target income from a collective DC scheme, as far as I am aware, occurred in the Netherlands and was roughly 6%. That is a lot lower than some of the figures suggested for losses to pots purely for being DC.
In summary, I welcome moves by the industry to make charges and transparency clearer, which is a good thing that I do not think anyone would oppose. These moves must succeed; otherwise the Government will have to act, given the scale of the challenges facing our country as we all look at saving for our retirement. On those who wish to make offers under auto-enrolment, some minimum standards on costs and charges should be set now, because we cannot afford any failures. Overall, I think that the transparency issues are symptomatic of an industry that is currently constrained by legal impediments from responding to potential demand. Simply put, at present, British law does not permit the creation of collective DC schemes. We should deal with that underlying impediment.
We should all share a sense of urgency. The Minister is well aware of this—I do not need to tell him—but I reiterate that the scale of the challenges that we face in the pensions field is enormous. If we do not get it right, starting with auto-enrolment, followed by lowering costs and charges in the pensions field, the burden will ultimately fall on the state. To avoid that burden, the Government have to act, and act quickly.
The Minister of State, Department for Work and Pensions (Steve Webb)
There is a risk of an outbreak of violent agreement in this debate, but I will do my best to sow some dissent, if I can. I congratulate my hon. Friend the Member for Great Yarmouth (Brandon Lewis) on securing the debate. It is good to see a number of hon. Members present and happy to spend 90 minutes discussing transparency in pension fund charges. Although it may be thought of as a dry subject, it is, as we have heard from a number of contributors, fundamentally important to the pensions outcomes of so many of our constituents. I am, therefore, grateful not only to my hon. Friend for securing the debate, but to all hon. Members who have participated in thoughtful ways.
I was struck by my hon. Friend’s examples of baffling language. On the first pension I ever had, I remember having to choose whether I wanted it to be “with profits” or not. I thought, “Profits must be a good thing, so I’ll have one of them,” but I did not have a clue. I worked for the Institute for Fiscal Studies at the time, so I may have been thought to have a clue, but I had no idea what it was. In fact, I am still a little bit hazy about it, but I do not have it any more.
It is absolutely clear that. although people get information, it does not inform. As my hon. Friend the Member for Cardiff Central (Jenny Willott) said, although one can get a wodge of stuff that complies with all the necessary regulations, it might not actually communicate anything at all. I agree with her that financial literacy is an important part of the jigsaw. She may have been encouraged to hear the Prime Minister say at Prime Minister’s questions that he will look at the research the all-party group on financial education for young people is doing. There is clearly some momentum behind that campaign in the House, which I certainly welcome. However, I think she would be the first to admit that financial literacy is only part of the jigsaw.
One of the crucial things about pensions is that we need to make them work for people who do not engage. In other words, most people will find the subject boring or off-putting and we need to ensure that their interests are protected. A phrase in the behavioural economics and pensions lexicon is, “You can’t beat a good default.” That is significant in the context of auto-enrolment because, by the end of the process, we will take firms that are not interested and give them a legal duty to choose a pension. It will not be the employer’s pension; it will be the employee’s pension. Therefore, the firm may have a limited incentive. It may care about its workers, but there may be a limit to how far it wants to go.
As we have heard, there may be employers coming into auto-enrol that are less educated, less interested and less well informed. When we discussed these issues in the Committee that considered the Pensions Bill earlier this year, one hon. Member—I think it was the hon. Member for Islwyn (Chris Evans)—asked what happens when a man in a shiny suit turns up. For example, he might turn up at a small engineering firm in the west midlands that employs three people and that probably did not even know it had a legal duty to auto-enrol—we have done our best, but it may not have heard—and say, “You’ve got to do this thing. I can do a scheme. Here are the terms. Sign here.”
There might be a tendency for such a firm to go for that. The question then is: who is looking after the welfare of the employee, because the employee will almost certainly end up auto-enrolled into a default fund? We need to make sure that the employee, who may not be engaged with pensions either, is protected. Transparency is a part of that. Individuals must get the relevant material, so that they know what they are paying. However, the employer has chosen the scheme. Happily, we are still on the eve of auto-enrolment, so we need to make sure that, first and foremost, employers have transparency. When employers are establishing auto-enrolment schemes or choosing schemes that are already running, they will therefore know what they are choosing between in a simple and consistent way.
I very much welcome the work of the National Association of Pension Funds that has been cited by a number of hon. Members. I am delighted that it is bringing together industry players, such as the Association of British Insurers, many of whose members offer contract-based pensions. We are therefore getting a spread across the breadth of pension provision. If that group and that work can produce an effective industry code of practice on transparency on charges, so much the better. I entirely agree with my hon. Friend the Member for Great Yarmouth that, if the industry can sort its own house out—it has not done so yet and there is some recognition of that—it is far better than the Government trying to be over-prescriptive. We need to ensure that we can get to that point quickly. I am pretty sure that, if the ABI, the NAPF and others get their act together and sort it out, they can move a lot faster than the Government. If an industry code of practice is in place before auto-enrolment starts, that will be very positive.
A number of hon. Members referred to the important issues of active member discounts, deferred member charges and deferred member penalties. That is a good example of transparency, or the lack of it. Someone might have left a firm years ago and still have some money with it. As my hon. Friend said, they might receive a statement, but they probably do not understand it. It is not apparent what is happening on charges and it perhaps did not even occur to the person concerned that, now they have left the firm, the charges are higher than they were when they were with the firm. Again, transparency gets us only so far.
One of the things we as a Government need to do, particularly post auto-enrolment, is to look at the whole issue of transfers. As the hon. Member for Cumbernauld, Kilsyth and Kirkintilloch East (Gregg McClymont)—I discovered the other day that that is the longest constituency name in Parliament—said, people might typically have 11 different jobs and acquire multiple small pots during their lifetime.
We could just do transparency. We could make sure that people know what pots they have got and what charges they are paying. However, a better strategy in my view—or certainly a better first step—would be to consolidate all those small pots, so that people are not left with stranded pots that they might never access at all because the firm has lost touch with them. We know that that happens because we hear from pension fund trustees who cannot find their members anymore. I do not know, Mr Gale, whether when you have moved house, you have told all your pension providers of your new address, but many people fail to do so. Therefore, many people end up with stranded pension pots because the providers have lost contact with them or because the pots are so small one could not buy an annuity with them and the charges for transferring them out are so large as to not make it worth while.
One can start to see how individuals who are just the sort of people who might be under-pensioned will get a bad deal. Therefore, transparency takes us so far, but much more action on transfers could take us a lot further. Hon. Members will be encouraged to know that, very shortly, I hope that we will be publishing a document setting out some options on how we might make transfers work. It is code-named “project big fat pot.” The idea is that we bring together all the small pension pots people have. In an auto-enrolment world, that really matters because we estimate that hundreds of thousands of small pots could be created every year. Such pots belong to people who are auto-enrolled, leave the firm and move on. We need to ensure that that process of accumulation of pots is as systematic and automatic as possible.
We will set out options. I say to the shadow spokesman that we are very much in listening mode on this and that, if he has insights and thoughts on our consultation, we will be pleased to hear what they are and to meet him to discuss them. One option is that the pot should follow the person. So if someone changes jobs, by default, the new firm says, “Right, we’ve auto-enrolled you. You have just come from another scheme. Unless you tell us not to, we will take the money into the new scheme, so you consolidate into the new scheme.” That is quite attractive but, on the other hand, such an approach raises issues around member protection if someone goes from “a good scheme” to a “not so good scheme.”
An alternative option would be that, by default, small pots go to a third-party aggregator—a third-party pot. That could be the NEST, another provider, a multiple set of providers or a super-trust. There is a variety of options. Again, that will mean someone does not end up with stranded pots and deferred member charges; they will just end up with a big fat pension pot, as far as they can.
That brings me to the point made by my hon. Friend the Member for Warrington South (David Mowat) about value for money. My rule of thumb on people buying annuities is that a third of people shop around and switch, a third of people shop around and stay with their provider, and a third of people do not shop around. If we can accumulate small pots into big ones, that will ensure people are getting better value for money and better annuity returns. However, he is absolutely right: transparency and information for people when they are making their annuity choices is vital and getting as close as we can to turning defaulting into shopping around has got to be the direction of travel.
The Association of British Insurers has taken some important steps in that direction recently. For example, if someone has saved with company A and, six months before they are due to draw their annuity, it contacts them, the ABI is making it a condition of membership of the ABI that the provider does not send the application form that is easy for someone to fill in and send back, meaning they end up with company A. Someone has to actively seek that out. That is a small step, but it is a step in the right direction.
We can do more and the Financial Secretary to the Treasury will be announcing further measures on that shortly. We need to ensure that people see what the charges are but, better yet, we need to try to ensure that people are not in a position where they face these charges. Instead, they should have the money somewhere they are connected to, rather than somewhere they left a long time ago. That would be an appropriate response.
There has been talk during the debate about NEST. It is encouraging that NEST has already driven up standards in the industry. In focusing on its target market, which includes people on lower incomes and people who have not been pensioned before, NEST has had to think very hard about language and communication. It has come up with a lexicon of phrases and the use of words such as “vesting” has been ruled out. That word cannot be used because nobody knows what it means. Unfortunately, the word “pension” is also a bit tricky as nobody knows what that means either. I think NEST calls a pension a retirement wage or something. I have a branding problem with my own job. I have asked the Prime Minister if I can be called the Minister for retirement solutions or something like that.
There is a serious issue surrounding the communication of pensions. NEST has led the field. Others are working with it and we, as a Department, have a working group on communications that involves a lot of the industry in trying to ensure that all of us are speaking human rather than pensions. That is vital in the context of auto-enrolment.
I do not know whether the shadow spokesman has had a chance to visit NEST yet, but we extend an invitation for him to do so. [Interruption.] Next week—there we go. My hon. Friends on the Select Committee visited and came back pretty impressed with what NEST is doing to drive up standards of communication, which is really important, and standards of transparency on charges, and to bring charges down.
I will say a word about the NEST charging structure in a second, but perhaps slightly contrary to what my hon. Friend the Member for Warrington South said, the evidence in the auto-enrolment space is that charges are coming down. He raised the issue of entrance to the market. We see growing competition—auto-enrolment is a big market; 10 million people will be auto-enrolled—new people coming in and charges coming down. For example, the B&CE organisation has branded itself as the “people’s pension”—I will not comment—with an annual management charge of 0.5%. NOW: Pensions, which is linked to the Danish providers, has a different structure at £1.50 a month, I believe, and a 0.3% charge. My hon. Friend the Member for Great Yarmouth mentioned the Federation of Small Businesses, which I believe is coming in with charges below 1%. There is NEST. We have heard about Legal & General, obviously an existing provider, but one that is working proactively in the market. I am encouraged that, in the early phases of auto-enrolment, I do not think that we have a problem with charges. I stress that—in the early phases I do not think that we have a problem. On the whole, we are dealing with the huge employers—the big supermarkets and some of the public sector. They have people spending time and effort shopping around. They can drive a hard bargain. They are engaged with pensions—I do not think that we have a problem there.
The challenge for Government is further down the track, as we get towards the medium and smaller firms that are clearly less profitable for the providers. We hope that many will go to NEST. When the pensions regulator writes to them a year out, we will flag up NEST. We will say that we have created NEST and that it is designed specifically with them in mind, and that they should have a look at it. There is a risk, however, that people will go to other providers and end up with high-cost providers. That is why we are looking at the issue of charge caps. In the debate, we heard two competing views on that: the call for charge caps, and the view that we should go for light-touch regulation and charge caps as a last resort. That is the dilemma we face.
It is only fair to say that charges are paying for something. In a transparent world, there may be a case for what looks like a high pension charge if people get something for it. I use the analogy that if all someone wants is vanilla then that is fine. We might say that vanilla ought to be cheap. If someone wants raspberry ripple, we might let them pay a little bit extra for it. We do not necessarily want to say that it is evil to charge more than a certain amount for a pension, but people should certainly know what it is they are paying and know what they get for it. For example, if someone is offering a sophisticated or niche investment, they should be able to charge for it, as long as we know what it is. The focus of our attention on charges is particularly on the area of default funds, because those will be the ones where people have made no active choice, where they have just been lumped in, and we need to ensure that people are protected.
David Mowat
I hear the Minister’s analogy of vanilla versus raspberry ripple. Raspberry ripple is analogous to actively managed funds. Remembering that those funds are heavily subsidised and paid for by a lot of Government money, is it his assessment that actively managed funds give value for money in the industry, and have demonstrated that they have been clearly better than tracker funds in the past decade or so?
Steve Webb
I suspect that the arguments over the merits of active management against passive trackers and so on are food for longer than a seven-minute debate, and are the source of much contention. The point that I am making is not so much that one or other is good or bad, but that we want individuals who make active choices. They can have a knickerbocker glory if they like. They ought to be able to choose as long as they know what they are getting, and can make an assessment on whether they are getting value for money. The worry we have is that, if people end up defaulted into something, they do not know what has been done to them, do not make any choices and potentially find that a big chunk of their money is going in charges. In such circumstances, the case for action is stronger.
That is not straightforward, however. What is a charge? My hon. Friend the Member for Great Yarmouth listed a whole raft of different things that can be mentioned in the course of setting out charges. Do we just cap an annual management charge? If so, what about transactions charges and sales charges? The danger is that, if we cap a bit of the charge, we squeeze the balloon and it just comes out somewhere else. It is easy to say, and I have said it, “Oh, we just cap charges.” Actually doing it and defining charges is less straightforward than one might imagine.
In the few minutes available to me—I believe that a Division in the House is imminent—I would like to pick up on the scale of the deferred member charges. For group personal pensions and stakeholder pensions, where one of those deferred member premiums is charged, our survey evidence from 2010 is that for active members we are typically talking about 0.6% as an AMC, but for deferred members an average of approximately 1%. These numbers vary a lot, but even that, as we have heard, cumulatively is a big chunk out of people’s pensions and something that we want to do something about.
To clarify the NEST charging structure, it has a contribution charge of 1.8% and an AMC of 0.3%. It is structured like that because NEST was started from scratch and so has to borrow money to start at business. It has to set up and be all in place before the first pound comes through the door some years later. The Government lent NEST that money on favourable terms because of its public service obligation. The 1.8% contribution charge reflects the Government loan. When that Government loan is paid off, the 1.8% charge will go. Having said that, it will be quite a number of years before it does: it is not permanent, but it is not short-term. It will be with us for some years, but that is why the structure is as it is. The 1.8% contribution charge and 0.3% AMC average out at approximately 0.5%. We are finding that the market is now coming down to about that level.
On charge caps, people sometimes say that, if there is a charge cap, the danger is that everybody goes up—the maximum becomes the minimum. I do not think that that will happen in this case, because we have NEST in the market. We are making sure that NEST is at a certain level, so charging could not be sustained at a much higher level. Therefore, I do not think that the argument against charge caps actually holds.
We heard a number of other points during the debate. My hon. Friend the Member for Warrington South referred to a £40 billion subsidy. That depends on how we look at it. Tax relief, fundamentally, is avoiding double taxation. If I earn some money, pay tax on it and then invest in a pension out of my post-tax income and am then taxed on my pension, that will be double taxation. We give tax relief on the pension contribution. Leaving aside the issue of higher rate relief, which is a different issue, someone who is on a standard rate of tax when they earn the money and a standard rate of tax when they draw the pension is being taxed once. I do not count that as a subsidy of the pension industry; I just count that as not double taxing people. There is a bit of an issue about higher rate relief, particularly when people retire on a standard rate, but I do not think we subsidise the pensions industry—that is not the way I would view it.
My hon. Friend raised an important point about comparability. We know that swapping energy tariffs, as he says, is a real challenge. As soon as someone has changed energy supplier, they can often jack the charges up. It is less straightforward at least with pension providers, because if someone signs on to a contract there are terms and conditions on whether they can subsequently be changed. It would be a good thing to get that transparency in place.
Drawing some of these threads together in this very important debate, I welcome the Select Committee’s inquiry, and the work it did recently in questioning witnesses. I welcome the lead that the NAPF is taking on this issue and the fact that it is bringing industry players together. A new industry code of practice would be an important step in the right direction. The Government may well have a role. We will certainly work closely with the NAPF and the industry to support that work. At the same time, we are looking at the role of charge caps and whether they have a part to play in auto-enrolment. We do not anticipate the issue of charges being a big problem in the short term. The scale of the market early on is a small number of big buyers who are relatively well informed and relatively well resourced, so we think that that will work well, but we are actively considering whether we need to go further. We all want to protect individuals and ensure that, of the money that goes into their pension, far more goes out in the form of pensions. That, I think, is a goal we all share.