The recent Autumn Statement made changes to auto enrolment contribution phasing, consisting of a delay of six months and a few days. Why, I hear you ask? Well, the idea behind this was to make the whole process simpler for employers and payroll by lining up the increments with tax years. Here are the proposed changes in a handy table:
And there was a small tax saving for HMRC too.
So the change is welcome but it’s not altered the fact that when employers – and employees – get to these dates, the difference in contribution amounts is significant.
When Auto Enrolment was devised, the idea of phasing was to ease people in gently. But it was at a time when pay rises were much higher. Now that the financial climate has changed, it’s more apparent that an issue that’s been overlooked is the impact on the end customer. On both the current and proposed models the employee’s minimum contribution increases by 4% in one year (1% at 5 April 2018 to 5% at 6 April 2019). While the objective of higher contributions makes sense, a 4% increase also translates to a 4% reduction in take-home pay. And that’s not the easiest message in the world to give your employees when they might already be ‘feeling the pinch’.
Many employers are following the rules and doing what they have to do when they have to do it. And although in theory there’s nothing wrong with that, by following the minimums, you will end up with quite a few ‘spikes’.
So what’s the alternative? Switched on employers (and their advisers) could use the extra time they’ve been given to smooth in the phasing and significantly reduce the impact on their employees – keeping the employee change to as little as 1% a year through to 2019. Likewise employers could smooth the impact on themselves, with increments of as little as 0.5% a year.
Looking a bit better – how smoothing could help ease the impact.
The effect on Auto Enrolment
So far, Auto Enrolment has been more successful than anticipated. The opt out rate was estimated to be much higher – it’s currently only around 10%. But one of the reasons it’s been this successful up until now is that most employers are paying the minimum. It’s low cost, and most people haven’t really bothered to think ahead. However, if employers don’t act now, when contributions jump to 5%, there’s a risk that people will start opting out. Then Auto Enrolment might not be the success story it’s been so far.
Can I get away with doing nothing?
Of course, employers could just wait and see what happens. But the fact is that they still need to get to 8% by 2019 and with a bit of forward thinking, they could start now with a smooth, spike-free rate of increase. It could make the whole exercise a lot less painful: employees are more likely to just carry on with their contributions and less likely to opt out. The benefit of this to an employer is that there’s less disruption and accompanying administration. After all, there’s not much involved in changing contributions – and a lot more to do if an employee wants to be removed from a pension scheme.
In the end of course, it’s up to you as the employer to work out how phasing could be organised to suit your business best. If you have an annual review of salaries and benefits packages, this might be an ideal time to review pension contributions too. It’s less likely that your employees will feel the impact of an increase in contributions if they get a pay rise at the same time.
But let’s not forget that the 2019 contribution levels are just the starting point. It’s widely acknowledged by both the Government and across the industry that contributions need to increase even further to ensure people can retire when they want – and how they want.
So what level of contribution should we be aiming for? 8% is in reality not the ‘endgame’ – it’s more of a starting point. So once you’ve got to the legal minimums in 2019, why not keep the increases going for another two or three years and get to a point where you will really make a difference to your employees’ retirement. The table below shows increases to 13.5%. Once you get over 10%, you’re getting to the point where your staff will be able to have exactly the retirement they want.
Looking a lot better – making a real difference
Nobody foresaw the recovery taking as long as it did, and in the current stagnant climate, these increases can feel quite daunting. But who knows where we’ll be in 2019? The best tactic is to think ahead and act now to avoid spikes. As an employer, you will still get to the same point – but it will have had a lot less of an impact on your employees and your business.