Has the time come for automatic private sector pensions?
Ministers have revived plans to place the onus on workers to save for retirement, yet fears remain about the slow rate of progress, writes Dan White
Regina Doherty has become the latest minister to propose auto-enrolling private sector workers into pension schemes, more than 13 years after the concept was first recommended. On Wednesday, the Cabinet approved plans to automatically enrol private sector workers, who do not already belong to one, into pension schemes.
"Most people, particularly when younger, don't think about saving for their retirement. The figures are stark - two thirds of private sector workers don't have any pension provisions made. While the state pension will always be there for people, I want to ensure that the pensioners of tomorrow - all those in the workplace today - don't just have enough to live but have a comfortable life in their retirement," said Doherty, the Social Protection Minister.
Under the scheme approved by the Cabinet last week, workers aged between 23 and 60 earning more than €20,000 per year will be automatically enrolled into a pension scheme, if they do not already belong to an approved scheme.
While workers will have the option of opting out, if they do so, they will be automatically re-enrolled after three years, at which point they will have to go through the opt-out process all over again.
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The experience of such 'soft' auto-enrolment is that most workers eventually go with the flow.
In the UK, which introduced auto-enrolment in 2012, the proportion of workers joining pension funds increased from 55pc in 2012 to 87pc by 2018.
"There is a widespread acceptance among people that it [joining a pension scheme] is an issue that they need to do something about, so when they are auto-enrolled, they tend to remain," says Jerry Moriarty, chief executive of the Irish Association of Pension Funds.
That something needs to be done to increase the rate of pension coverage among private sector workers is not in serious doubt.
The most recent figures from the Central Statistics Office (CSO) show that only 47pc of all workers belonged to a pension scheme in 2018. However, when one strips out public sector workers, virtually all of whom belong to a pension scheme, the rate of coverage among private sector workers drops to about a third.
Instead of saving for their retirement, most private sector workers are hoping that the contributory state pension will support them in old age. That might not be a very good idea.
The CSO has calculated the value of the State's future contributory pension liabilities at €231bn, a figure 7pc greater than the 'official' national debt of €215bn.
While the CSO makes no effort to calculate the value of future State liabilities for non-contributory pensions, it puts the value of future liabilities for the defined benefit pensions of Government employees, guards, nurses, teachers, etc at another €114.5bn.
If the State were to take future pension liabilities on to its balance sheet, the national debt would almost triple at a stroke.
Pensions everywhere are being hammered by a lethal combination of increasing longevity and falling bond yields.
The average life expectancy of Irish males has risen by almost 10 years to 78 years and five months over the past four decades. Female life expectancy has risen by more than nine years, to 82 years and 10 months, over the same period.
This rise in life expectancy is going to massively increase the number of elderly people in the decades ahead. The CSO predicts that the number of people aged 65 or over will climb from 630,000 in 2016 to between 1.53 million and 1.6 million by 2051. Over the same period, the number of people aged between 15 and 64 will increase from 3.1 million to somewhere between 3.2 million and 3.9 million. This means the ratio of potentially working-age people to the over-65s will fall from its present 4.9 to one, to somewhere between two and 2.6 to one.
With the proportion of potential tax-paying workers to pensioners set to more than halve over the next third of a century, it should hardly come as a surprise that Doherty wants us to save more for our retirement, rather than relying on the contributory state pension.
At the same time as all of us are living longer, falling bond yields are playing havoc with pension fund valuations. Putting a value on future pension liabilities is an arcane science. Someone in their mid-20s joining a pension fund today could still be receiving payments from that fund in 70 years' time. So how on earth does one place a value on pensions that may run until 2090?
On the basis that a euro today is worth more than a euro tomorrow, actuaries use Government bond yields to put a value on these future liabilities. This means that, as is the case at present, if Government bond yields are very low, future pension liabilities are much higher than they would be if bond yields were higher.
A simple example tells the story. The Irish treasury bond maturing in 2050 - the longest-maturing Irish Government bond for which a price is available from the Irish Stock Exchange - currently yields just 0.9pc.
If we were to use that yield to value the liability to pay a future pensioner €10,000 in 2090, we would get a figure of €5,340. However, if yields rose, even to just 2pc, the present value of that payment would fall to just €2,500.
All of which means that we are going to have to save much more for our retirement, rather than, as is currently the case with many of us, relying on the State to do the job for us.
Under Doherty's proposals, auto-enrolment will begin in 2022, with workers contributing 1.5pc of their incomes to a pension fund.
This contribution will be matched by the employer, i.e. a total contribution of 3pc.
This will rise by 3pc every three years to reach a maximum of 12pc (6pc each from the worker and employer) by year 10.
All very well, but we have been here before. Auto-enrolment has been a bit like the financial equivalent of a Samuel Beckett play; we all wait around seemingly forever but nothing happens.
As far back as February 2006, then minister for social and family affairs, Séamus Brennan, commissioned a report from the Pensions Board (now the Pensions Authority) on the possibility of introducing a mandatory pension system, i.e. auto-enrolment. The board reported back the following July, recommending that: "The most appropriate and practical approach to improving the position of pensioners in Ireland would be a combination of an increase in the state pension with a mandatory supplementary system [i.e. auto-enrolment] for those at work who are not making supplementary provision."
Thirteen years and six ministers later, we are still no closer to auto-enrolment. Why should things be any different this time?
The fact that Wednesday's announcement was light on detail, particularly on any State top-up and who would provide the new pension schemes, will have done nothing to calm the fears of those who worry that the news was merely the latest episode in kicking the can down the road. Doherty begs to differ.
"People can be confident that we will have a new pensions savings scheme in place by 2022 because we've made good progress so far, are focused on a few outstanding items, and this is a top priority for me and this Government. I want to guarantee that everyone in their golden years will not only get by, but enjoy their retirement and have a good standard of post-work living," she said. When launching its 'straw man' consultation proposals in August 2018, the Government suggested topping up employee pension contributions, by adding €1 for every €3 paid in by the worker. It also suggested the number of registered pension providers be capped at four.
Implicit in the earlier top-up proposals is a reduction in the maximum rate of tax relief for pension contributions from the existing 40pc to 25pc. With a general election being at most six months away, Fine Gael would hardly be human if it did not want to postpone this particular piece of bad news for its core middle-class supporters until after polling day.
While there has been some muttering from pension providers about the proposed management fees for auto-enrolled pensions, an annual 0.5pc of the total assets under management, just how many of them will ultimately turn up their noses at what could be a lucrative new market?
ESRI estimates that the potential size of the auto-enrolment pensions market could be up to 585,000. Based on the average private sector wage of €35,000, that would translate into total annual contributions of up to €2.4bn when the top 12pc contribution rate kicks in by 2032.
If there were assets of even €12bn, i.e. no investment growth, by 2032, that still works out at annual fees of €60m. "Anyone involved in the pensions business thinks auto-enrolment is a good idea. We still have a young population. There is a danger that we will lose this advantage if we don't get this done," says Moriarty.
While the need to introduce auto-enrolment is clear, the social and economic benefits will not become apparent for many years. This means little political advantage will accrue to the minister who actually introduces it.
Doherty might not win any extra votes in her Meath East constituency if she is the minister who finally gets auto-enrolment over the line, but future pensioners will have cause to be grateful that it was she who eventually got them saving for their retirement.
Sunday Indo Business