Under auto-enrolment, pension contributions are deducted only from qualifying earnings rather than full pensionable earnings. This puts higher earners at a disadvantage and progressively lowers their effective contribution rate as their earnings grow during their career – and we need to talk about this. In the final article in the series on DC contribution levels, I take a look at the role advice boundary anxiety plays in this problem and how factual information can increase member engagement. 

 

 

Going back to our hypothetical worker from our previous article, he is currently 27, sitting on a starting DC pot of £6,000, grossing £35,000 per annum and contributing the 5% minimum required under auto-enrolment (and receiving the 3% minimum from the employer). 

 

As this worker progresses in their career, their DC contributions will only follow until their annual gross salary hits £50,270. This is because of qualifying earnings: the first £6,240 do not qualify for pensions contributions, so for anyone earning £50,270 or more per year, they only pay pensions contributions on £44,030. This means that higher earners pay progressively less into their pension – and most workers paying basic or higher tax rates are effectively contributing around 6% of their total earnings, and not the nominal 8%. 

 

 

 

 

With the limitations on qualifying earnings under auto-enrolment, pension contributions would max out at £3,522 per year – so there is an implied assumption that this should be enough to secure most workers’ retirement. However, using the Lloyds pensions calculator*, we can check and see that this level of contributions will earn our hypothetical worker a total retirement pot of £255,092, which would pay £7,653 a year in addition to the state pension of £11,502. This means they might end up with a total of £19,155 a year, which is below the moderate retirement living standard outlined by the PLSA. 

 

If the hypothetical worker in our example voluntarily increases their personal contribution to 8%, their effective contribution rate improves. However, to keep contributions in step with earnings, the worker needs to increase their contribution rate each time they get a pay rise after they achieve a gross salary of £52,270 – to also make up for the fact that the employer will not always match these increases (which depends on the employer’s benefit rules). 

 

 

Recent research from Nest Insights suggests auto-enrolment contributions should indeed be raised for people earning more than the median salary. Despite this, HR and payroll professionals are often reluctant to explain to employees the impact of increasing or reducing their pension contributions. As most of them are not qualified to give financial advice, they often worry that what they say may be construed as such. 

 

However, as discussed in our review of advice boundary anxiety, factual information does not count as financial promotion or advice, unless the materials also promote the pension scheme or encourage a switch to a different pension product. Alerting higher earning employees to the fact that they could be contributing more into their pension, if they wish to do so – and showing them the simulated impact on their take-home pay – is simply providing employees with information that is not easily accessible. 

 

The DC industry often talks about how members should engage more with their pension. This is the whole reason behind Pension Awareness Week, the annual national Pay You Pension Some Attention campaign, the Pension Dashboards Programme and the Advice Guidance Boundary Review. Why not start simple, with the people who are closest to members when they enrol in a pension – a rare and important touch point?

 

 

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