The Department for Work and Pensions is considering introducing a universal charging structure for the default funds in defined contribution schemes. The move was welcomed for the clarity it might give to DC savers, but experts have warned of the problems it would cause master trusts such as Nest.
The proposal is one of a number contained in a consultation published on Monday, following another published in January in which the decision was taken to ban the charging of flat fees on pots under £100.
The purpose of a universal charging structure for DC default funds would be to “enable better member comprehension of the charges they pay, and of their pension’s other features, and in doing so improve member engagement”, the consultation stated.
“This in turn may enable members to compare pensions and exercise choice where they feel an alternative pension product could more closely meets their needs,” it continued.
We don’t want to go back to the bad old days where some providers just cherrypicked the profitable business. We should stop, pause and think, and let the market mature so all schemes are sustainable over the longer term
Darren Philp, Smart Pension
There are currently three permitted charging structures: a single percentage charge of the pot value, taken at the end of each year and capped at 0.75 per cent of funds under management; a combination of a percentage charged on each new contribution made, plus an annual percentage of funds under management charge; and a combination of a monthly or annual flat fee plus an annual percentage of funds under management charge.
The consultation proposed whittling this down to a single, universal charging structure allowing for a single percentage annual management charge “based on the value of the member’s pot within the default fund”, per the DWP’s document.
However, this proposal would outlaw combination charging, currently used by some master trusts, including Nest.
The document acknowledged that the proposal would “inevitably impact” providers who currently use alternative structures, and pledged to consider “carefully” any impact on existing or potential members.
In his foreword, Guy Opperman, minister for pensions and financial inclusion, wrote: “We said that in 2021 we would look at how we could make it as easy as possible for pension savers to have access to comprehensive and transparent information on costs and charges.
“I believe that moving, in the future, to a single, universal charging structure could make a significant difference to the transparency of charges, make comparison easier, and unlock greater choice for members.”
‘Serious consequences’ for master trusts
Opperman wrote that the changes proposed in the new consultation are designed to protect those who work several short-term jobs and often find themselves auto-enrolled into new pension schemes, not least by providing them clarity on how their resulting plethora of small pots are charged.
Clare Reilly, chief engagement officer at PensionBee, heralded the proposal to do away with combination charges.
“No reasonable person is able to understand or compare the jambalaya of combination charges across auto-enrolment schemes. The only way to offer comparability, transparency, and real engagement with pensions is standardisation of a single percentage AMC across all types of pots,” she said.
“At PensionBee, we’ve long called for the abolition of combination charges — charges that at best confuse savers, at worst erase their savings to zero. A single fee charging structure gives customers clarity, confidence and control in their understanding of how our service and, indeed, all pensions should work.”
Kate Smith, head of pensions at Aegon, told Pensions Expert that the concern about combination charging may make it difficult for some members to compare the pension charges of their different pots.
However, she said that “only a minority of pension schemes use combination charges, and these are largely master trusts aimed at the mass auto-enrolment market, with Nest being the prime example”.
“Enforcement of a universal charge structure based on a percentage of funds under management could have serious consequences particularly for this sector of the market, which relies on combination charges to make their pension model viable, making it more difficult to support certain employers to comply with their auto-enrolment obligations,” she warned.
Michael Ambery, partner at Hymans Robertson, sounded a similar note. He warned that the new structure “may impact providers both in terms of ability to adopt this approach, impact the business plans and profitability of providers, and also may not increase engagement for members who arguably do not understand the charges and scheme costs that apply to their pensions”.
However, he noted that if implemented, the universal charging structure “would enable greater and hopefully more consistent understanding [by members]”.
“Certainly it would enable comparison by members based on charges alone. Charges do not always represent value offered by a particular provider,” Ambery said.
Problems ahead for Nest?
Darren Philp, director of policy at Smart Pension, acknowledged the need for costs and charges to be transparent and understandable, and said the industry “has come a long way in improving transparency in recent years”.
However, he branded the DWP’s new call for evidence “premature”.
"While there is a debate to be had about how pensions are charged for, this needs to be considered in the round. We need to move away from constant piecemeal changes, which continually adds complexity,” he said.
Philp argued that moving to AMC-only pricing “will cause instability to exactly those schemes that have done all the heavy lifting in making auto-enrolment such a success”.
“All the main auto enrolment providers charge on a dual basis, which recognises the economics of running these schemes,” he said.
“We don’t want to go back to the bad old days where some providers just cherrypicked the profitable business. We should stop, pause and think, and let the market mature so all schemes are sustainable over the longer term.”
He suggested that the government should “fully understand” the “huge market distortion it would be creating it if implemented these changes in the near term, including for its own scheme, Nest”.
“For Nest, a move to an AMC-only model would push out the payback period on the subsidised loan, which would come at significant cost to the Treasury,” Philp continued.
“Workplace pensions have never delivered as much value for money as they do now, and looking to change the fundamental basis of the market at this point in time risks the progress we have made over the past 10 or so years.”
DWP to ban flat fees for small pots
The Department for Work and Pensions is to ban the charging of flat fees on pension pots under £100 in an attempt to stop their erosion by charges and administration costs.
Smith also highlighted problems the change could pose to Nest.
“In the case of Nest, the combination charge of 1.8 per cent on each new contribution and a 0.3 per cent AMC was designed to help the scheme pay back its government loan more quickly, and moving to a universal charge might make this much more challenging,” she explained.
A Nest spokesperson said that the master trust “will be looking to work closely with the DWP through the consultation”.
