The charge cap: to be or not to be, that is the question?

Today’s announcement from Steve Webb about the potential pension charge cap had half the pension commentators cheering and the other half tearing their hair out.

After asking last Autumn for the fastest consultation period possible, today Webb confirmed the decision on the charge cap has been delayed. Instead he wants the cap to come in by April 2015 (and not April 2014 as previously mooted), and said he will give employers at least 12 months’ notice. The reason for the delay? He was worried about the amount of time employers would have to make changes to their schemes.

This policy is Steve Webb’s baby. His great legacy of this coalition parliament. So, to delay it means it was either a massive victory for industry lobbying or he came under some very uncomfortable pressure from the Treasury. Or both.

Webb definitely wants a charge cap. Although it was headed up as a ‘consultation’ there’s little doubt, despite the OFT’s view, Webb was always going to introduce a cap. We can now expect a paper next month, and Webb’s intention is to introduce the charge cap by April 2015. The problem with Webb’s plans is we need the cap in legislation, and with a general election in May 2015, there’s a real possibility this might get caught up in a legislative traffic jam as the coalition government tries to pass all the remaining legislation milling around as the clock ticks down. And whilst we know this policy is important to Webb, it may not be as important to the rest of Government. Including, significantly, the Treasury.

We do know the cap’s going to apply to all qualifying pension schemes – in other words ones being used to automatically enrol people, or those where the members are people who would otherwise qualify for automatic enrolment. We also (probably) know that active member discounts will go, and will have to be unwound for any scheme set on that basis.

What we don’t know is the level of any charge cap. It’s very unlikely to be above 1%, and much more likely to be 0.75% or 0.5%. And we don’t know what charges the charge cap will cover. Although the talk was of AMC, several have lobbied for all charges to be included including all the pesky fund charges (even the known unknowns and the unknown unknowns – to sort of quote Donald Rumsfeld). And we don’t know what will happen about schemes previously set up on a commission basis.

So, what can we do now? Well, avoid AMDs to start off with. They will only cause problems later on. Only set up schemes with probably at most a 0.75% charge – if that’s possible – to err on the side of caution. And start to look very closely at existing schemes being used to harbour potential automatic enrolment employees. If they are on an ‘old’ basis, they will need to be unwound or shifted, and we may have about a year to April 2015 to take action. But groundwork can be made now.

The charge cap is not yet home and dry. There is still a significant possibility it could be kicked into the legislative long grass. Webb wants qualifying schemes to be pristine clean with low charges and no fiddly AMDs. And the ironic thing is even though he has faffed around with this policy, employers, providers and advisers have all started making the changes necessary for the introduction of the cap. So we could end up with the peculiar position of no charge cap in legislation, but a charge cap in practice.

Transferring annuities - a nil sum game

The pensions industry was woken sharply from its post New Year lull this weekend when Steve Webb put forward the idea of transferring annuities. This idea was, sadly, met with, dare I say it, derision by most of the industry.

Why do I say sadly? True, it was a half thought through idea. First the option already exists, although only a few providers offer it – presumably through lack of interest from annuitants. Second it will never quite get the results people want. People want to transfer to increase their income, probably because their circumstances have changed. But you have to remember transferring is almost always a nil sum game. Generally, actuaries don’t let people work options against them.

So, if you choose to transfer because you have developed health problems and you now want an enhanced rate, then the ceding insurer will work out the transfer value on your new current life expectancy and the instalments yet to pay. You may be able to get slightly better rates in the open market – but it won’t be a step change. Especially when you factor in adviser costs involved in transferring.

What about the incredibly unlikely scenario that rates increase and you bought your annuity at the nadir of the market? I am willing to bet my house actuaries will think about this possibility and work into the original pricing enough cushioning to make sure it doesn’t hurt if this situation arises. Some reckon that would reduce starting annuities by 25%. For everyone. Regardless of whether rates go up or not. Regardless of whether they transfer or not.

So the idea of transferring annuities is not really a flyer.

But it was sad it was met with so much mockery. At least Webb is putting forward a solution. Over the past six months we have spent much of it wringing our hands and saying isn’t it dreadful the annuity market isn’t working. I think the time of analysing is past. We now have to work together to come up with some proper tangible ideas about how to achieve better distribution of annuities and better incomes for pensioners. Let’s hope the FCA review  sparks off a few good ideas.

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The other piece of pensions news this weekend was that David Cameron committed to providing the triple lock guarantee on the state pension for the duration of the next parliament. This is not a light decision. Such a guarantee costs money. But as the PPI has shown it is by far the best way of providing a decent pension, and much more effective than tinkering around with charges. I only hope that in 25 years’ time when I retire the triple lock is still around. But I seriously doubt it.