The scale of the announcements made this week, by both The Treasury and the Financial Conduct Authority, is tantamount to the creation of a ‘National Wealth Service’. The overall plan to liberalise the pensions market and enable individuals to make use of their pensions savings more freely was announced in the Chancellor's March Budget. Since then, there has been much speculation about the effect of these changes on businesses.
We now know that the impact on companies of this new pensions regime is likely to be two-fold. Firstly, the cost of the advice necessarily required - given the wide range of alternatives an individual must now consider when planning the strategy for retirement - must to some extent fall on their employer. Secondly, the likelihood that more members of Defined Benefit (DB) pension schemes will seek the flexibility achieved by transferring to a Defined Contribution (DC) pension scheme is likely to mean that corporate sponsors will see DB schemes shrink in size.
Each of these outcomes needs close consideration.
Advising an individual seeking to plan for their financial future is complex and highly regulated. The Government has sensibly decided that the advice required is best provided by those independent of the manufacture of pensions products. Consequently, banks and insurers will not be permitted to give this advice. The result of this is that advice will need to be paid for directly and at a scale which reflects the complexity of individuals’ differing circumstances. Companies will need to budget for this cost.
Separately, in the short term at least, the cost of operating a DB pension Scheme is also likely to rise. Under announcements made this week, the trustees of DB schemes will be obliged to ensure that those transferring to a DC arrangement take proper advice, in order to ensure that they make a fully informed decision before deciding to forego the dual-guarantees of a certain investment outcome and an income for the rest of their life, regardless of how long they live for. Many DB schemes have tens of thousands of members and checks by the trustees of this type are likely to lead to higher administration costs.
Of course, half this country's working population are, to some extent, self-employed. The Chancellor has committed that advice should be free at the point of use. The Treasury's solution is to impose a new levy on the financial services industry. While this should not directly impact the business community, these costs have a habit of being passed on.
Management teams of financial services firms will be naturally concerned to address what this means for their costs in real terms. The Money Advice Service and The Pensions Advisory Service will be expected to fill the "guidance vacuum" but these organisations do not have the sufficient scale to cater for the 600,000 individuals reaching retirement every year. The levy, therefore, may need to fund a massive training programme and the creation of many new advisory roles - especially given demand for advice around retirement saving will be far higher than ever before as people seek to replicate security of an annuity while taking advantage of the liberalisation. The cost of creating a framework for guidance will therefore be high and one must assume that the impact on the financial services industry - which is already heavily levied - could be steep.
Over the medium term, however, the news is better for UK companies. Finance directors might reasonably expect an increasing number of people to seek the financial flexibility that the Chancellor’s new rules allow those preparing for retirement by opting for a DC arrangement. If this is the case then the often only partially-funded liabilities sitting on a Company’s balance sheet associated with its DB Scheme will shrink away at a rate faster than would have been expected prior to this year’s revolutionary Budget. This, in turn, is likely to put the pension “Buy-out” in reach for many more companies, whereby an insurer buys the pensions liabilities from a company – effectively taking risk off the corporate’s balance sheet. This option would not have been feasible for many businesses had the pensions regime not so dramatically changed.
This week’s announcements constitute “phase two” of a transformation of how pensions are provided in the UK. While the scale of the advice to be provided under the vision which George Osborne has created – individual advice for everyone - has left many puzzled as to how this provision can be made, the picture for business is now much clearer.