If you earn between £5,000 and £33,500, new pension plans could push down your pay packet by 4% a year.
Stakeholder pensions were once thought of as the white knight which would come to the rescue of a very distressed UK pension system. The initiative saw many employers setting up brand new schemes which promised easy access to employees across the land, while promoting a vast increase in pension saving into the bargain. But several years on, four out of five schemes lie as nothing more than empty shells and the system continues to teeter on the brink of disaster.
Now that can hardly be considered a resounding success, so what's the answer?
Government reforms to private pensions will see the introduction of Personal Accounts in 2012. This initiative will have the same underlying purpose as low-charging stakeholder pensions - to encourage more people to save for their retirement - but this time there will one or two key differences that will set them apart from schemes that have gone before.
Auto-enrolment & Compulsory Contributions
For one thing Personal Accounts will operate under a system of auto-enrolment. This means employees will automatically become members of a work-based scheme unless they specifically choose to opt out.
What's more, employers will be expected to make compulsory contributions of 3% of band earnings (the band is expected to range between £5,000 and £33,500) which will be phased in gradually from 2012 at a rate of 1% per annum over a three-year period.
Meanwhile, employees will make their own contributions of 4% with the Government topping that up by a further 1% through tax relief. This means the total payments to the scheme will equate to 8% of earnings between £5,000 and £33,500.
Employers which offer an existing pension will have the right to retain their original scheme as long as employees are auto-enrolled and the minimum contributions are made.
The Pensions Policy Institute (PPI) expects between four million and nine million new savers to participate. But given that the self-employed will be excluded and the opt-out rate is unknown, I'm concerned that the proportion of people who will fail to see any benefit from the new scheme could be significant.
It's easy to see how auto-enrolment should do away with people's inertia about making pension contributions, but the principle comes with inherent drawbacks. After all, participation will be forced when it isn't necessarily suitable for the individual concerned.
For example, compulsory contributions may be not be affordable for lower earners or those with higher levels of personal debt.
The additional costs faced by employers in setting up the scheme and enrolling members could result in a lower incidence of more generous contributions rates. Currently, 15% of private sector work-based schemes provide employer contributions which exceed 3%, but the new scheme could see this percentage fall as costs rise.
Should employers choose to contribute no more than the 3% minimum, then by 2050 total contributions could be £10 billion lower than it would have been without these reforms.
If, however, employers decide not to pass on the costs of the new scheme, the total annual pension contribution made by a combination of employer, employee and state payments, could increase by around £10 billion in 2012, according to the PPI.
That's why it's widely accepted that for Personal Accounts to be considered a success, employer contributions must exceed the compulsory 3% rate.
'Pension Income Disregard'
The Government's attitude to UK pension provision has often been criticised for its impact on means-tested benefits and the subsequent disincentive for lower earners to save for their retirement. Many individuals have found that low levels of pension income have adversely affected their eligibility for means-tested benefits including the pension credit, housing and council tax benefit. It seems a ridiculous scenario that some people are no better off after saving into a pension, if those savings are effectively `cancelled-out' by a reduced -- or worse still, a negated -- entitlement to state benefits.
For Personal Accounts to work there is a need for what the PPI refer to as a `pension income disregard' which means the first slice of an individual's pension income won't have an impact on their entitlement to means-tested benefits. Under the current system there is a disregard for capital which allows the first £6,000 of capital - such as bank account savings or individual savings accounts (ISAs) - to be discounted when calculating entitlement to means-tested benefits.
Treating pension income in a similar way is, in my view, crucial to the success of the reforms as this reduces the risk of lower earning individuals participating in a system which might otherwise be unsuitable. To closely align a new pension income disregard with the current capital disregard would mean an individual could save at least £6,000 in a Personal Account, without affecting their entitlement to benefits. This should give a clear message of the value of saving with a pension income disregard, resulting in higher returns from saving in a Personal Account.
Undoubtedly the concept will evolve further before its 2012 launch. To combat the pensions crisis it must specifically target low to moderate earners who don't already have access to work-based pension schemes, while ensuring that disincentives to save by compromising means-tested benefits are effectively dealt with first.
Auto-enrolment and compulsory contributions are certainly more radical than previous initiatives. But only time will tell if they are the solution...