The Institute for Fiscal Studies is proposing a “targeted” approach to increasing auto-enrolment contributions by keeping employer contributions going on opt-out, higher default employee contributions above a certain income threshold, and raising the upper limit for qualifying earnings among others.  

The IFS is calling for reforms to auto-enrolment that allow for flexibility and avoid penalising those opting out of pensions, in two reports published on Monday, ‘Adequacy of future retirement incomes: new evidence for private sector employees’, and ‘Policies to improve employees’ retirement resources’.   

As the government’s pensions review gets underway, the thinktank said on current trends, 43% of current private sector employees saving in a defined contribution pension will not reach an adequate replacement rate as defined by the 2003-05 Pensions Commission. It is proposing to reform pension saving without putting too much strain on those who would struggle to afford putting money aside for retirement. 

“It is really important to take seriously the affordability of asking for bigger pension contributions from many low-earning individuals, as well as the need for many to save more. We suggest a way forward that would focus the encouragement of higher contributions on periods of life when people have average, or higher, earnings,” said David Sturrock, co-author and senior research economist at the IFS. 

“There is a strong case for almost all employees to receive an employer pension contribution, irrespective of whether they make a contribution themselves. That would be a bigger change to the system – and one that would likely be of particular benefit to many low earners,” Sturrock added.  

Over a fifth (22%) of private sector employees have no pension as they either opt out or do not meet the earnings trigger of £10,000, which has to come from a single employment. 

 
Making employer contributions regardless of whether the employee contributes would particularly benefit women, people working part-time, young adults and the low-paid, explained Mubin Haq, chief executive of the abrdn Financial Fairness Trust, which sponsored the research.  

“Guaranteeing 3% from the employer regardless of whether an employee makes a contribution could boost employer pension contributions by £4bn per year,” he argued.  

Compared with other ways of increasing employer pension contributions, doing so would be less likely to suppress wages for lower-paid employees receiving additional contributions, the IFS said, but it recognises there is a risk that making employer contributions non-contingent could lead to higher opt-outs.  

“Although our reading of the evidence is that the numbers doing so would be small, a government more concerned about this could trial this suggested approach prior to implementation,” it suggested.  

As well as giving employer contributions irrespective of whether the employee saves, the thinktank proposes tweaking the rules around auto-enrolment, including: 

 

 

 

 

 

Combined, these changes would lift retirement incomes by between 12% and 16% (£1,400 to £2,100 per year) for those currently on track for low and middle incomes in retirement, according to the economists, while the take-home pay of lower earners would probably fall by less than 1%.  

“This can happen because some of those on track for low retirement incomes will spend time as higher earners and so save more as a result of these changes,” the thinktank said. “In comparison, moving to minimum 12% contributions would also boost retirement incomes but would generate considerably bigger falls in take-home pay for low-paid workers.”  

The institute also called for a regulator review of auto-enrolment contributions, which should happen “no less than once a decade” and potentially be aligned with the state pension age reviews.  

Industry mostly supportive but wary of complexity  

Calum Cooper, who heads up pensions policy innovation at Hymans Robertson, said he strongly supports employer contributions continuing when employees opt out. 

 

He argued that a more financially inclusive future would be one where all contributions are employer made. 

 

“It would take years to migrate to that sustainably, but it would mean employees are paid the same for the same role, whether they can afford to participate in pensions or not,” he said. 

 

Matt Calveley, director at consultancy Isio, agreed that “from an inclusivity standpoint, it makes sense to ensure that all employees, especially those on lower incomes, can build up a minimum level of retirement income” by providing employer contributions to non-contributing employees. 

 

However, employees should not carry the difference between 8% and 12% alone, he said: “We support raising minimum contributions to 12%, but we believe employers should increase their share first – matching employee contributions at 5%, then moving to 6% from both employers and employees.” 

 

Calveley said the proposal of only increasing default contribution rates from a certain income threshold, rather than all employees, would make the system more complex.  

 

“We’d prefer to allow employees the flexibility to ‘opt down’ if they can’t afford higher contributions. This would keep the system simple while still offering a way to manage affordability,” he argued. 

 

In addition, he suggested offering ‘opt-up’, where employees can contribute more and receive matching contributions.  

The IFS’s focus on affordability was welcomed by Tim Gosling, head of policy at master trust provider People’s Partnership, who said workplace pension policy must work at all points in the earnings distribution.  

However, Gosling called for greater clarity around the desired outcomes of auto-enrolment. “It’s impossible to talk about how much people should save and how much legal minimum pension savings should be without having a clear idea of what the goal of the policy actually is,” he said. 

 

What are your thoughts on the IFS proposals for auto-enrolment?