Directors face a heavier workload under a shake-up of occupational pensions in 2012. Companies will be forced to automatically enrol employees into retirement saving schemes and make contributions on their behalf. Are they prepared?
More than half of the 60 employees at Revvo Castor Company in Christchurch, Dorset, are already members of an occupational pension scheme. But managing director Andrew Mackenzie is not looking forward to the task of auto-enrolling the other workers into the pension plan when the government's
flagship scheme starts to operate in 2012. Auto-enrolling will force all employers to offer pension arrangements of a minimum standard. "It could be a challenge for us," says Mackenzie. "All we can do is present the facts to the team and let them make their own decision."
At Revvo, an employee can make pension contributions of up to six per cent of salary that are matched by a company payment of up to three per cent. But Mackenzie notes that those workers who haven't joined the workplace scheme "have their reasons" and so may not be happy about the prospects of auto-enrolment.
Directors face the problem of auto-enrolling employees at a time when their own pension funds, and those of other high earners, are under attack from tough new tax rules.
But many executives aren't aware of their responsibilities under the plans, warns Malcolm Small, senior adviser on pensions policy at the IoD. In theory, the idea of forcing people to save for their retirement is sound. With an ageing population, the burden will otherwise fall on the state. But the major benefits of the policy will be felt by future generations-it is SMEs today that will feel the pain.
"This is the moment SME owners and directors have feared for so long," says Billy Johnson, head of employee benefits at Oval Financial Services. "Compulsory pension contributions mean more bottom-line cost at a time when businesses that have survived the worst of the downturn are trying to rebuild but are very cost-conscious."
Even companies that already have a pension scheme could be caught out. "Companies which offer an existing pension may mistakenly believe they are already compliant," explains James King, private-client head at Price Bailey, a member of the UK200Group of independent accountancy and law firms.
Under auto-enrolment, contributions to pensions by both employer and employee are based on a percentage of the worker's qualifying earnings. These may include overtime and bonuses that may not be included in current pension arrangements. "Therefore, the first step every company needs to take is an audit of its existing scheme to see what changes may have to be made," says King.
Yet many SMEs, especially micro-enterprises, don't offer pension schemes. So costs are likely to rise for businesses, notes Mark Folwell, a partner at law firm Lane Clark & Peacock. "In addition, the administrative burden of complying will add to employers' workloads and their responsibilities towards employees," he says. "The Pensions Regulator's extensive powers to enforce compliance mean that employers should not take their new duties lightly."
But the cost of employer contributions might not be the major problem for directors, argues Andrew Cheseldine, a consultant at Hewitt Associates, which provides human resources consulting and outsourcing services. Cheseldine suggests this may turn out to be little more than two per cent of payroll costs, after opt-outs and other factors are considered. "The real cost will be in regards to the admin and payroll systems," he says.
"The difficulties are likely to be in ensuring that accurate data, such as national insurance numbers and precise weekly or monthly earnings are available, and in dealing with the inevitable opt-outs and those who simply stop turning up for work rather than working their notice."
Because employees will be able to opt out complicates matters-employers must re-enrol opt-outs every three years (at which point it is possible to opt out again). Ensuring that all employees are enrolled on time will be an unwelcome burden for many SMEs. But the penalties for non-compliance are fierce-a fine of up to £10,000 a day.
The need to enrol employees in a pension scheme also introduces a potentially fearsome legal trap. Directors must not encourage employees to opt out or provide financial advice of any kind about the scheme.
"A challenge that employers will face is how to provide information to employees without giving financial advice," says Ian Cormican, a partner at Sackers, a specialist pensions law firm. "Employees who may not be keen to engage on pension issues need to be able to make informed decisions about contribution levels and investment."
There is one piece of good news, notes David Gallagher, a pensions partner at law firm Field Fisher Waterhouse. "The government will lead on provision of information through a Web-based information hub," he says. "The employer will not be allowed to supply an opt-out form to an employee. So we would expect employees to see this as a government project, not the employer's."
More enterprising SMEs could turn the new pensions regime to their advantage. For example, the rules lay down minimum contribution levels. "Any company offering a higher level of contribution can use this as a way to attract and retain key employees," says Price Bailey's King.
But Philip Hodges, head of sales at Aquila Heywood, which supplies pension admin software, says firms that had gained an edge by offering pensions may need to provide extra benefits when the scheme becomes compulsory.
Although auto-enrolment is only two years' away, directors who leave plans to the last moment could face problems. The best time for reviewing arrangements could be later this year or in 2011, when regulations are finalised.
Many directors are likely to be distracted from the scheme by the unwelcome tax hit on their own pension contributions. From April 2011, a director (or anyone else) who is earning more than £130,000 from any sources, including dividends and rents as well as salary, could have to pay more tax. There is a daunting raft of detail in the new laws, and directors who think they may be affected should discuss matters with their financial advisers as soon as possible.
"Directors and company owners will no longer have the freedom to use company pension schemes as an efficient extraction-of-profit tool," says Oval's Johnson. "This is a cynical tax on higher earners and a contradiction to the long-held notion that employers must help to meet the burden of pension provision in society and, in exchange for that, tax relief at the highest marginal rate would be available for employees."
The IoD's Small sees the tax law changes undermining the case for a traditional pension fund. "For higher earners, the question must be asked now: why would you save into a pension? You have the prospect of a maximum of 20 per cent tax relief and the possibility, if you have got a very full pension fund, of being a higher-rate taxpayer in retirement. Why would you do this? You just wouldn't."
He sees other ways of saving for retirement gaining in popularity. These include ISAs, life insurance policies, investment bonds and financial capital trusts. He also points out that with capital gains tax allowance currently at £10,100, it is also possible to extract tax-free income from equities and other investments by "judicious encashment".
With a general election a maximum of three months away, there is also the prospect that the detail of many pension plans may be altered after a change of government, although few believe auto-enrolment will be scrapped.
From 2012 employers must enrol workers into either a defined-contribution pension or the National Employment Savings Trust (Nest), a new low-cost scheme to fund retirement. Alternatively, a company can offer employees membership of a defined-benefit pension scheme, which allows contracting out.
There are two issues that will affect how auto-enrolment affects your company-staging and phasing. Staging refers to the dates by which you need to start auto-enrolling employees. Phasing relates to the way in which contribution levels are set. The timetables and key facts are listed below:
Large companies (1,250 to 120,000 employees)
October 2012 to September 2013
Medium companies (50 to 1,249 employees)
October 2013 to July 2014
Small companies (fewer than 50 employees)
August 2014 to February 2016 (for new companies, March 2016
to September 2016)
Phasing sets three periods for working out minimum levels of contributions employers must pay into defined-contribution schemes.
First transition period
October 2012 to September 2016
Total contributions must be at least two per cent of qualifying earnings, of which the employer must contribute at least one per cent.
Second transition period
October 2016 to September 2017
Total contributions must be at least five per cent of qualifying earnings, of which the employer must contribute at least two per cent.
Steady state period
From October 2017
Total minimum contributions of eight per cent, of which the employer must contribute three per cent.