Bring the self-employed in from the cold

That is an increase of 20 per cent in just seven years. It is estimated that the self-employed now make up 15 per cent of the workforce.

No wonder then that political attention has begun to turn to the thorny problem of how to encourage them to save for later life. In 2015, a report for Citizens Advice found that only 17 per cent of self-employed people were contributing to a pension, and this drops to only 13 per cent for self-employed women.

That is 3.8m people who were not saving into a pension – a frightening number.

Raise and reroute NICs

So why are so few self-employed people saving into a pension? At the moment, there are not many incentives for them to do so. In fact, there is only one: tax relief. For the majority of the self-employed that is likely to be at basic rate, however.

And there are too many reasons for them not to save. Unlike for those of us sentenced to a life working for ‘the man’, there is not necessarily a salary payment to get excited about at the end of the month. This could make set contributions tricky to manage.

We need to find a solution. As it stands, the self-employed are at unacceptably high risk of ending up 'underpensioned'. That is why it is a key part of the 2017 review. The way to get the self-employed saving is to find a way to bring them into auto-enrolment.

If the government of the day was to raise class 4 national insurance contributions to 12 per cent from 9 per cent – admittedly a controversial idea if recent events are anything to go by – then this could be rerouted into an auto-enrolment pension scheme. This assumes the individual is willing to make an additional 4 per cent contribution. 

If, however, a person opted not to make the 4 per cent contribution, they would lose the additional 3 per cent, and associated tax relief, to the state.

There would be some practical challenges for providers, of course. There would not really be a payroll function for workplace pension providers to interact with, for a start.

And, without the benefit of scale gained from businesses with multiple employees, auto-enrolment for the self-employed in the traditional sense simply would not be cost effective. That is before we look at the impact of fluctuations of income.

So we need to find another way. Collecting ‘contributions’ through their taxes would be the simplest.

Lisa is no solution

Why can’t the self-employed just get a lifetime Isa, you might say, assuming they are young enough to start one, of course.

The Lisa is really a product for supporting house purchases, and is ill-designed for generating a retirement income. As a rule of thumb, a final pension pot consists of one-third of accumulated contributions and two-thirds of investment returns.

The flaw in the design of the Lisa is that returns are likely to be very low. This is why the Financial Conduct Authority has decided it needs to be sold with risk warnings. The Lisa also does not benefit from any of the consumer protection measures associated with workplace pensions, such as the 0.75 per cent charge cap on default funds.

Collecting pension contributions from the self-employed through NICs makes sense. It would not be easy, but it would be worthwhile. And it would be relatively easy for HM Revenue & Customs to aggregate demand, solving scale issues. Where the self-employed fail to opt for a provider, HMRC would operate a carousel system to allocate them to one.

The self-employed could opt out, of course, as employed people can. But given that by doing so they would lose some of their own money, the self-employed might have a strong incentive to stay in.

Ultimately, we know that, as it stands, the self-employed are at risk of not having enough to live on in later life. So we need to do something about it, it is as simple as that.

Darren Philp is director of policy and market engagement at mastertrust the People's Pension