The government says millions of workers could get a £6,000 boost to their retirement fund as a result of wide-ranging pensions reforms.
On Thursday, Rachel Reeves revealed more details of the Pension Schemes Bill, which will pave the way for the creation of more so-called “megafunds” managing at least £25 billion in assets within the next five years.
Earlier this month, 17 major workplace pension providers signed a voluntary agreement called the Mansion House Accord, with a view to boosting pension returns. Aviva and Legal & General are among the providers who have committed to invest at least 10% of their workplace pension portfolios in assets like UK infrastructure, property and private equity by 2030.
The government says the agreement will be good news for those who have defined contribution (DC) pensions – the most common type of private pension in the UK.
Here’s what the reform means in real terms — and how likely it is that savers will gain a £6,000 pension boost.
How do pension investments work?
A defined contribution (DC) pension is a type of pension scheme where you (and if it’s a workplace pension, your employer) contribute money into a personal pension pot.
The money you and your employer contribute is invested by your pension provider. The value of your pension at retirement depends on how much has been paid in and how well the investments perform.
Pension providers typically invest in a mix of assets, including stocks and shares (also known as equities), government and corporate bonds, property, and commodities, like gold and cash.
This mix is chosen to balance risk and reward, meaning that your pension will benefit from long-term growth while also managing potential losses.
Will workers actually get an extra £6,000?
Labour says the changes will benefit defined contribution (DC) pension savers by harnessing higher potential net returns available in private markets.
According to the government, the signatories to the accord have said that £252 billion of assets are subject to the pledge.
Helen Morrissey, the head of retirement analysis at financial services company Hargreaves Lansdown, said that while “there needs to be an element of flexibility” around the £6,000 uplift, the “increased efficiency” of the reforms looks like a positive step to boost defined contribution members’ pots.
She told Yahoo News: “Markets can go up and down and this can have an impact on a member’s pot.
“However, these reforms look to enable schemes to invest in asset classes that were previously closed to them and there is potential for increased returns as a result.
“The key to this will be access to a stream of high-quality opportunities and the government has committed to helping schemes deal with barriers that have previously stood in their way.
“Increased efficiency will also help boost member pots. One of the key benefits of scale is that it enables schemes to drive down costs and the impact assessment shows this can have a material impact on the size of pension,” she added.
It is a combination of these increased efficiencies that will reduce pension fees, as well as the higher returns that the government has used to calculate the £6,000 figure.
However, Sir Steve Webb, a former pensions minister, cautioned that the sum was “marginal at best”, telling the inews that savers would need to start paying into their pensions from the age of 22 and never miss a year until retirement to potentially secure the maximum amount.
When factored into the total size of the average retirement pot and how long they are used for Sir Steve said it is probably worth under £10 a week on your final pension.
He added: “None of this factors in the costs of some of the other measures which they are proposing, which include creating a new process for the consolidation of micro pots, which will cost a lot of money to administer, and which will presumably increase pension costs.”
“They’re clearly aiming to provide a ‘retail’ message to go alongside all this talk of multi-billion-pound pension schemes, but to be honest, this £6,000 figure is marginal at best.”
How will the megafunds plan work?
The reforms enable pension funds to invest in major infrastructure projects and private businesses, which historically have delivered higher returns.
The plan covers retirement savings for the majority of UK workers in two ways.
Firstly, there are the 86 different local authority pension schemes, which provide for more than six million people in their retirement, the majority low-paid women.
The £392bn in these schemes will be merged from eight pools to six asset pools by next March, reducing overheads and maximising returns.
Local investment targets will also be agreed for local authority pension schemes for the first time, the Treasury said.
Secondly, defined contribution schemes currently worth £800bn, covering millions of other private and public sector workers across the country, will also be consolidated.
This will reduce management fees and operational costs, and boost savings for savers.
Because of this, by 2030, the government says there should be more than 20 pension funds worth more than £25bn, in contrast to the current 10 available.
While the move was agreed earlier this month, the government has now introduced a legislative back-stop, which will allow it to push through the new rules if insufficient progress is made by the end of the decade, according to the BBC.
The 17 providers who have signed up are: Aegon UK, Aon, Aviva, Legal & General, LifeSight, M&G, Mercer, NatWest Cushon, Nest, now:pensions, Phoenix Group, Royal London, Smart Pension, the People’s Pension, SEI, TPT Retirement Solutions and the Universities Superannuation Scheme (USS).
The Pension Schemes Bill is due to be heard during this term of Parliament.
