I recently met with former Pension Minister Steve Webb to discuss the ground breaking reforms to how we save for retirement.
The last year and a half has seen a remarkable degree of upheaval in British politics, with the Conservatives proving the pollsters wrong to secure a majority at the 2015 General Election, a vote to leave the EU and leadership changes at all the major parties. Against this backdrop, the fact that the UK had a Coalition Government that lasted the course might seem like ancient history rather than an administration that was in place until May last year.
The Coalition not only managed to defy sceptics in enduring for a full five years, in certain areas it also implemented far-reaching reforms. None more so than in the area of pensions, where it introduced a radical shake-up, extending the freedom and flexibility around how savers can access their pension pots.
At the heart of this revolution was Steve Webb, former Pensions Minister, who earned respect from across the political spectrum and the financial services industry for his grasp of the issues. Webb delighted newspaper picture desks when he quipped that, under the new pension freedoms, it was up to retirees if they chose to use their pensions to purchase a Lamborghini.
At the May 2015 General Election, Webb lost his parliamentary seat of Thornbury & Yate amid a rout for his party, the Liberal Democrats. He has now taken up the post as Director of Policy and Communications at Royal London, a role which has enabled him to bridge the gap between the policy maker’s perspective and the realities on the ground.
“I have never been in the corporate world as such, so it’s quite fun for me to see. For example in seeing how products are designed,” Webb explains. “I think I have begun to appreciate the cost and time needed for products to change. There is a slight tendency for politicians to forget this – they want the instant gratification of being able to announce something today and then be able to see the benefit of the change tomorrow, if not yesterday. If people are spending time just complying with the latest regulation, that’s time they are not spending innovating new products. You do see these trade-offs a bit more on the other side of the fence.”
With the pension freedoms now more than a year bedded in, Webb feels implementation has gone well. “Some people suggested we should have spent two years getting it ready, not one, but if you think of the surge of people desperate to get their money on 6 April 2015 – giving them two years notice would have been mayhem. There was variability in performance from providers in getting ready for the new regime, but from what I could see, things went relatively well,” he says.
As for fears that savers would blow their retirement pots on luxuries, Webb argues “people have been remarkably measured in what they have done with their pensions. I am sure there will be some extreme cases that will come to light but the typical person has been using the flexibility effectively, indeed not taking everything out, which was the worry.”
There are other aspects of the previous Coalition policies, notably which emanated from the Treasury, of which Webb is highly critical. These include successive cuts to the annual pension allowance and the lifetime allowance.
Webb explains: “What I was trying to do in my previous role was to establish a certain amount of stability so that people knew where they stood, what the State would do, what provision they would get through their workplace and what the choices would be at the end. But then somewhere else in the Government forest, tax – which was somebody else’s job – would get tweaked, for a bit of money here, to pay for a reform there, and that creates no sense of a coherent destination.”
Webb favours a simplification of pension tax relief by establishing a long-term framework, bringing an end to “this constant speculation” over further reductions. He is an advocate of replacing the existing system where tax relief is provided at an investor’s marginal rate of Income Tax, with a flat rate of relief for all. While that would bring an end to the days of higher-rate relief, he believes pensions would still be appealing to higher-rate taxpayers: “if you get 33% tax relief on contributions plus a tax-free lump sum, that’s still pretty good”.
But alongside this he is unequivocal that the lifetime allowance, the limit on the amount of pension benefits, over and above which punitive taxes are applied, should be scrapped altogether. Webb describes the lifetime allowance, which George Osborne repeatedly reduced during his tenure as Chancellor down to £1 million from this tax year, as creating “a ludicrous situation where people are penalised if their investments are doing well.”
Having conducted a consultation on the future of pension tax relief, a fundamental reform of the system was ducked in the last Budget as the Government sought to avoid stoking up a hornet’s nest ahead of the EU referendum.
Instead, George Osborne pulled a different rabbit out of the hat, a new Lifetime ISA aimed at younger savers to be introduced next year – but which is facing calls from some providers to be delayed. The Lifetime ISA will incorporate a flat rate 25% top-up from the State and can be used to help fund either a first time property purchase or retirement. Some of this looks like the introduction of a pension with a flat rate of relief, alongside the existing pension system.
“My best guess is that they will let the Lifetime ISA start and see how it goes. Then they might think, people like this Lifetime ISA, maybe we’ll expand it, maybe to the under 45s, maybe we’ll raise the limits. Before you know it, somebody will say – ‘Oh you know this is all going rather well, do we need all this subsidy over there for pensions?’ You can almost see the one evolving into the other.”
“The Treasury are quoted saying “This is not a Trojan horse”,” Webb says with a smile, “but the problem with Trojan horses is that they do not say on the side ‘I am a Trojan horse’.
Webb is also concerned that the Lifetime ISA will undermine the Government’s initiative to auto-enrol millions of people into workplace pensions by effectively creating a competitor to it.
“The worry is that, are young people really going to save in two places, the workplace pension and the Lifetime ISA? And if they don’t, and they are really focused on a house purchase, do they then put all their eggs in one basket – the LISA – and opt-out of their workplace pension, which means they lose their employer contribution? Then by the time they are in their early 30s, they have got their house but they have spent ten years out of their workplace pension, so they have zero retirement savings at that point. I don’t think that it has been thought through; I don’t think that it has been given a second thought quite frankly. After decades of bemoaning pension membership with the young being particularly low, having finally got literally millions of the young into pension saving schemes, it just worries me that this new shiny thing will undermine all of that.”
He is also scathing about this year’s introduction of a new tapered annual pension allowance for people with an adjusted income of £150,000. For every £2 of income earned over £150,000 the annual pension allowance is reduced by £1 with a maximum reduction of £30,000. Anyone with an income of £210,000 or more has therefore seen their annual pension allowance tumble from £40,000 to just £10,000 irrespective of the value of their existing pension.
While this is clearly bad news for those directly impacted, Webb argues this could have a more wide-reaching corrosive impact as senior managers become disengaged with the pension schemes that their staff will rely on: “I just can’t believe that we want decision makers of British industry not to be particularly engaged in the workplace pension – it just doesn’t feel like you will get good outcomes.”
If there was one key piece of unfinished business for pension reform, Webb singles out getting workplace pension savings to go beyond 8% of staff salaries. “For all the debates that we have about tax treatment and limits, and all the rest of it, frankly if there is not enough going in, then really we are all blown. So, 8% by 2019 is the current plan. I think that every time you get, say, a pay rise, then by default a rise in your contributions should go up to a reasonable level, by law in my view, unless you opt-out. And that way, you don’t feel the difference if you never had it, so that way you don’t feel the pain. I think that is what we have to do. So that is the biggest thing we can do for the vast majority of people.”
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