Connected Research

Union policy research in the 21st century

RSA report illustrates impact of pensions management costs

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Pensions for the people: addressing the savings and investment crisis in Britain, a report by David Pitt-Watson, founder of Hermes Equity Ownership Services, for the Royal Society of Arts highlights (among other things) the effect on pensions pots of annual management charges.

The report starts from the perspective that the investment chain is currently failing as a result of high investment management costs and inadequate corporate governance and makes proposals for how these can be addressed within the framework of the government’s pensions reforms. As Pitt-Watson points out, the imminency of the reforms – starting in 2012 – as well as signs that the opposition is currently reviewing its policy on them adds to the urgency with which the problems he highlights must be addressed.

Certainly, the running costs of private pensions are little understood. Pitt-Watson points out that the annual fees charged to a private pension is somewhere in the region of 1.5% of the total balance of the fund in each year (the Pensions Commission calculated slightly lower, at 1.3%). This means that, over the course of the average lifetime of a pension, some 40% of the total pot goes into costs and charges, meaning a hefty reduction in the size of the annual pension that such a pot will secure: Pitt-Watson’s calculations suggests a reduction from an annual pension of £16,080 (in the unrealistic scenario of there being no charges at all) to one of £9,901. In contrast, a pension of £13,657 could be achieved at a cost structure of 0.5% and one of £14,756 at 0.3% – a significant increase in return for no more investment by the individual pensions beneficiary concerned and with a knock-on effect on the extent to which future generations of retired people are going to be reliant on the state.

So, it is clear that personal accounts must have low charges – and also that employees with DC schemes more generally ought to pay much more attention to the cost structures charged to their schemes.

Through auto-enrolment, much of the on-costs of marketing and product set-up are taken out, meaning that personal accounts can be established on the basis of a much cheaper cost structure. The Pensions Commission suggested that an annual management charge of 0.3% was achievable; the government’s response agreed that it may be possible to achieve an AMC at a rate of 0.5% of funds invested in the short-term and below 0.3% in the long-term.

Pitt-Watson’s suggestion for citizen investor funds – to tackle the corporate governance inadequacies – have similar cost structures underpinning them but he does suggest increasing the £3,600 maximum amount that can be saved in personal accounts – a proposal which the TUC has also previously supported. This he suggests would facilitate the creation of collective investment vehicles of sufficient scale that would essentially entail the creation of major new market players committed to good long-term corporate governance.

With the government having previously suggested that the attainment of a replacement rate of two-thirds of income could be achieved within the £3,600 annual limit on contributions, the personal accounts system may not see the establishment of pensions institutions of the sorts of scale that Pitt-Watson is seeking as regards the corporate governance aspects of his report, but continued industry support for lower cost structures is the one that will deliver the most practical benefits to ordinary pensions savers.

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Written by Calvin

28/09/2009 at 2:26 pm

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