Memorandum submitted by IMA



Pensions Bill, December 2007




1. The Investment Management Association (IMA)[1] welcomes the publication of the Pensions Bill, which paves the way for the creation of Personal Accounts and for auto-enrolment into Personal Accounts or qualifying employer schemes. This paper presents our initial response.


2. Subject to successful implementation of Personal Accounts, the IMA believes that the Government has chosen the right architecture for reaching that part of its target market for pension saving that will not otherwise have access to a good employer scheme. As we have emphasised during the long debate leading up to the Bill, this approach has three key features:


o Independent but accountable structure. Through the Personal Accounts Delivery Authority (PADA) and Board, the Personal Accounts system will have an independent but accountable delivery and governance structure.


o Simple access. The Personal Accounts system offers a simple access point for both employees and for contributing employers. There will also be a default fund for the overwhelming majority of members who are expected not to exercise investment choice.


o Expertise of private sector. The expertise of the private sector can be harnessed in a competitive fashion throughout the personal accounts system in order to deliver a cost-effective and efficient long-term savings vehicle. This is particularly relevant to the account administration and fund management components, where the infrastructure is very well established.


3. Independence is important for a number of reasons, principally:


o It will allow Government to utilise the best available professional expertise to decide how best to deliver and run the scheme.


o It will help to protect the scheme (and its members) from political interference, while also protecting Government by putting a clear distance between it and the scheme.


4. The Pensions Bill goes a long way towards reassuring us that such independence will be ensured, and the senior PADA appointments to date are welcome evidence of Government intentions. While PADA in its executive phase will in fact technically be advising the Secretary of State on a number of key aspects of the future scheme, we hope that the Government will maintain its commitment to respect the judgement of the Delivery Authority.


5. However, there two areas within the Bill where we would like to seek changes or additional clarification from the Government: PADA / board responsibilities and contribution limits.


6. After a summary of proposed amendments, our submission looks first at these two areas. A third section examines key investment issues with respect to Personal Accounts, and a final section provides our views on the means testing issue and the problem of auto-enrolment into contract-based schemes.



II Summary of Proposals for Amendments


7. PADA and Board Responsibilities (Part 1 - Chapter 5 and Chapter 4)


PADA Responsibilities (Chapter 5 - Personal Accounts Delivery Authority)


Clause 62(2)(c) should be amended so that the principle of minimising impact on the wider savings market is also considered.


Clause 62(2)(d) should be amended so that the principle of minimising costs is to be achieved "without prejudice to the quality of the scheme".


Board Responsibilities (Chapter 4: Power to Establish a Pension Scheme)


The principles outlined in Clause 62, should not end with the dissolution of PADA, but should also inform the Board's responsibilities. This is in line with proposals in the White Paper: 'Personal accounts: a new way to save' (Paragraph 3.17).


8. Contribution Limits (Part 1 - Chapter 4: Power to Establish a Pension Scheme)


Clause 53(1) should make provision for a precise limit. The 3,600 limit proposed by Government (to be uprated from 2005 earnings) should be written into primary legislation.


The Government should clarify its intentions regarding payments specified in Clause 53(3). We believe there are considerable risks to allowing large ad hoc contributions. It would also be helpful if there was a signal from the Government during the passage of the Bill on the procedure for the proposed prohibition on transfers to and from Personal Accounts


Clause 53(5) should be deleted. We cannot envisage circumstances in which some kind of limit should not apply to Personal Accounts contributions.

III PADA and Board Responsibilities (Part 1 - Chapter 5 and Chapter 4)


9. Governance of the Personal Accounts scheme will encompass a range of areas with immediate implications for scheme members, such as fund choice, charging structures and investment strategy.


10. Some decisions could also well have an external significance, currently reflected in certain principles for the Personal Accounts Delivery Authority (PADA) set out in Clause 62(2), notably subsections (b) and (c):


o the burdens imposed on employers should be minimised;


o any adverse effects on qualifying schemes and members and future members of those schemes should be minimised.


11. We suggest two modifications to the principles set out in Clause 62(2), affecting sub-sections (c) and (d).


12. First, with respect to Clause (62)(2)(c), the IMA believes that PADA should consider not just the effects of its activities on qualifying schemes, but on the wider long-term savings market. As we discuss further in the next section, PADA has to be careful to focus the reform on the target future members of the Personal Accounts scheme. If the scheme begins to have a negative impact on the wider market, it could be a significant problem for Government, consumers and industry alike.


13. Second, one of the principles accorded to PADA in Clause 62(2)(d) is that costs are to be "minimised". While we accept that it will be important to contain charges in Personal Accounts, we believe that economies of scale and efficient operation will in and of themselves contribute to lower costs.


14. The danger is that if PADA concentrates on minimising cost as a central priority, it is possible that decisions could be made that are not in the long-term interests of future members. For example, a strict interpretation of cost minimisation could be taken to imply that funds should be invested in cash deposits, where there are no charges, but where long run investment returns would be inadequate. The requirement to minimise costs should not cut across the need to put in place an appropriate asset allocation. We therefore propose that subsection (d) be amended to reflect minimisation of costs "without prejudice to the overall quality of the scheme".


15. The principles outlined in Clause 62(2) are not however carried forward to apply to the Board once it is set up; they apply only to PADA and therefore cease when PADA is wound up.


16. The primary duty of care to Personal Account scheme members notwithstanding, we believe that the Board should also have certain responsibilities in this regard, although we recognise that the Board will not have the same responsibilities as PADA when looking at the wider implementation issues raised in Clause 61(2)(b).


17. In this respect, the provisions in the Bill fall short of the Government's previous commitment. The White Paper: 'Personal accounts: a new way to save', under a section entitled: 'The personal accounts board'(Section 3.17), notes that:


"The objectives of the scheme [our emphasis] will be set in statute..."


The White Paper outlines ten wide-ranging areas of interest that cover the treatment of members as well as "minimising burden on employers" and "considering the impact on other high-quality pension provision".


18. The reason to maintain such external objectives for the Board in the drafting of Chapter 4 is clear. Scheme design only begins with PADA. In many practical (as opposed to legal) respects, PADA is simply an early incarnation of the Personal Accounts Board, as opposed to a truly distinct structure.


19. Design will continue under the Board for many years, if not decades, and similar issues to those encountered by PADA will be likely to arise as the scheme evolves. For example, if modifications to the scheme make it difficult for employers, their incentives with respect to employee opt out or paying additional employer contributions may change. Equally, if the scheme begins to encroach significantly upon existing provision, then the Government's ambitions for this reform are compromised and good private sector schemes / products adversely affected.


20. With respect to encroachment, the Board will clearly have a responsibility to deliver the best possible savings outcomes for members of the scheme. However, there will always be a delicate balance between achieving this aim and not, intentionally or unintentionally, positioning Personal Accounts in such a way as to compete unfairly in the long-term savings market.

IV Contribution Limits (Chapter 4 - Clause 53)


21. In considering the issue of contribution limits, it is important to reiterate what we understand the justification to be for Government intervention in the savings market to create the Personal Accounts system. There is little compelling evidence of a supply side failure with respect to the range of consumer choice or the cost of products in the market. Opinion polls have shown that cost is not the primary factor in the decision not to save. Instead it has much more to do with perceptions of insufficient spare resources for saving.[2]


22. This points to tangible signs of failure on the demand side, with many employees under-saving or not saving at all for retirement. In this specific context, the use by Government of auto-enrolment with statutory minimum contribution levels is an understandable response to concern about the long-term consequences for the welfare state of this failure.


23. Auto-enrolment with statutory minimum contribution levels changes the nature of Government responsibilities with respect to product choice (we comment further on auto-enrolment in Paragraphs 53 and 54). Crucially, it is these responsibilities - towards both employers and employees - that the IMA believes justifies the creation of a national, centralised system of Personal Accounts. Such a system can offer the robust governance, simplicity and economies of scale which are pre-requisites for building the virtuous circle of confidence in what will be one of the largest occupational schemes in the world.


24. That said, it is clearly not in the Government's interest for the scheme to be allowed to emerge as a dominant player in the long-term savings market. Firstly, such a development would raise awkward competition issues. Secondly, in a system that is operating without regulated advice, the Government's central defence for the decision to auto-enrol is the existence of what is in effect a matching contribution (3% employer and 1% tax relief) for the employee's 4%. This will make it far less likely that scheme members could emerge from Personal Accounts with a negative or very low return on their own individual contributions.


25. In contrast, if an individual's contributions to the scheme do not attract an employer contribution, the advantages of investing money in a pension rather than taking other action, like repaying debt or saving in another form like an ISA, will depend on the individual's circumstances. It may well be appropriate to take financial advice before such a decision. But personal accounts - a scheme which does not embody regulated financial advice - will effectively have a Government "seal of approval". An unlimited ability to make additional contributions may lead individuals to take comfort from that and take financial decisions that are not in their best interests. If those decisions subsequently go wrong, they may blame the Government for encouraging them.


26. An unlimited ability to make additional voluntary contributions may therefore involve significant moral hazard for the Government.


27. While there are of course legitimate industry concerns about the impact of Personal Accounts, it is essential for Government to consider the consequences for its own position of not limiting contributions and/or transfers into a scheme that is an extremely illiquid savings vehicle (ie. you cannot change your mind or withdraw funds in the event of unforeseen events).


28. In this respect, the IMA welcomed the Government's reconsideration of its initial proposal to set the annual contribution limit at 5,000, and to reduce this figure to 3,600 (in 2005 money), closer to the 3,000 originally proposed by the Pensions Commission. The IMA also welcomed the limiting of transfers in and out, and accepts that both measures will be subject to review.[3]


29. The IMA believes that, as they currently stand, the Government's proposals for 2012 broadly strike the right balance in this regard. However, there are risks of that balance subsequently shifting, and there are three ways in which this concern should be addressed.


30. First, with regard to Clause 53(1), while we understand that there are practical reasons why it is easier to set the limit in secondary legislation, we believe that the 3,600 figure is important enough to merit inclusion in the current Bill. After all, the lower and upper earnings limits have been judged sufficiently sensitive to be included at a numerated level in current earning's terms (Clause 11).


31. Second, with regard to Clause 53(3), the Secretary of State is given broad powers to determine the level of payments into the scheme that are not part of the annual contributions referred to in Clause 53(1). The Government has stated that it will not permit transfers in or out of Personal Accounts. We assume that the proposed restrictions will be written into Personal Account scheme rules, which is why they are not included in the Bill. However, we think the Government should make the position clear during the passage of the Bill through Parliament.


32. In the context of Clause 53(3) we are also concerned about the Government's reluctance to rule out one-off top ups, for example in the event of a bequest or other windfall. Here, there are quite clear risks to Government of the kind what we outline in Paragraph 27. An individual may well not have considered issues such as precautionary saving (ie. using a cash ISA or a less liquid but still accessible savings product such as an equity ISA) or the investment risk with respect to a large lump sum (ie. missing the benefits of pound cost averaging).


33. Furthermore, as a point of principle, the Personal Accounts system is not supposed to cater for this kind of saving. Returning to the observations above about supply and demand, a desire to save a large lump sum is not symptomatic of the demand problem that Personal Accounts is designed to address. There are a range of savings products, with both short and long-term horizons, and with a wide range of costs, that exist in the current market. Many would also involve the kind of regulated advice that might well be appropriate for this kind of one-off individual investment.


34. The middle-way solution that the IMA suggested in an earlier submission is to build in a form of rolling limit, whereby an employee who had been contributing below the 3,600 limit could have the possibility of topping up in later years, subject to annual restrictions (eg. 5,000) which help to protect against the investment risk outlined in Paragraph 31.[4]


35. If the Government remains concerned about savings blight between now and 2012, a higher first year limit may be appropriate for the first year in which the Personal Accounts system comes into operation.  However, this would have to be made subject to certain safeguards related to provisions for opening Personal Accounts.  Personal Accounts should only be created through an employer-based auto-enrolment procedure or through an application by the registered self-employed.


36. Whatever the precise solution found by Government, we believe that the issue needs to be resolved quickly and should form part of the debate within Parliament about the nature of the Personal Accounts system. The issue of contribution limits is too important to be left to subsequent decisions.


37. Thirdly, we oppose Clause 53(5), under which the Secretary of State can repeal the section dealing with contribution limits. We consider that this sends an unfortunate message that the Government is not committed to keeping Personal Accounts focused on their target market of those without current access to long term saving. While there may be a need for flexibility in the event of a future review that leads to a different consensus about contribution limits, there are sufficient powers in Clause 53 to allow the Secretary of State to change the limit in any direction. The power to remove the limits is unnecessary and dangerous.

V Investment Considerations


38. Given the inclusion in the Personal Accounts target market of many millions of people for whom their Personal Account may well be their largest financial asset, there is a legitimate concern about the appropriate level of investment risk.


39. While the Bill is correct to leave detailed investment matters to PADA and the Personal Accounts Board, it will be important for both bodies carefully to determine how to design the default fund in which a clear majority of scheme members are expected to invest. In this respect, the White Paper's suggestion that an investment committee would spearhead this work, with a degree of continuity between the delivery (PADA) and live phases (Board), is the correct one.


40. The IMA accepts the suggestion in Clause 62(2) that "the preference of members and future members should, so far as is practicable, be taken into account" in making provision about investment choice in Personal Accounts. This would allow those who desired, for example, an ethical or a sharia fund, to have their preferences acknowledged.


41. However, the IMA would caution against any attempt to push PADA and the Board towards what might be seen as a 'safe' option for the default fund, as seen, for example in the default fund of the US Thrift Savings Plan, which is invested (by law) in government securities. In fact, what might be seen as 'safe' and 'low risk' could turn out in the longer term to be running a very high risk of not providing Personal Account scheme members with a sufficiently large pot upon retirement.


42. To illustrate the point, we have modelled fund size over 30 years from a median earner, contributing 8% of banded earnings each year.[5] We look at three basic strategies: government bonds (100% UK government bonds), a mixed portfolio of 70% UK equities / 30% UK government bonds; and equities (100% UK equities). The headline findings are shown in Figure 1.


43. The results show the extent to which a saver might be disadvantaged by an overly cautious approach. Two findings are striking in this respect, which are also illustrated in Figure 1:


o The median outcome for the bond portfolio (66,066) is pretty much the same as the 15th percentile of the equity portfolio.


o The 85th percentile of the bond portfolio (104,307) is lower than both the median of the mixed (111,400) and of the equity portfolio (132,530).


Figure 1: Projected outcome after 30 years for median earner, contributing 8% of banded earnings (expressed in today's money)


44. Presenting the findings in a slightly different way, Table 2 shows the likelihood of being better or worse off in each strategy. What we clearly see is that in an equity-based or mixed strategy, there is a comparatively small chance (less than 20%) of being worse off than the median bond portfolio outcome. At the same time, the chances of being better off than even the 85th percentile performance are over 50% in the mixed portfolio and close to 65% in the equity portfolio.


45. We also find that a mixed portfolio protects the fund holder to some degree from extremely bad outcomes. The chance of being worse than the 15th percentile is slightly lower, and the 0.5th percentile of the mixed portfolio returns 15% more than the equity only portfolio.










Table 2: Summary of Relative Outcomes





Chance worse than 15th Percentile of Bonds




Chance worse than Median of Bonds




Chance better than 85th Percentile of Bonds








Chance worse than 15th Percentile of Mixed




Chance worse than Median of Mixed




Chance better than 85th Percentile of Mixed








Chance worse than 15th Percentile of Equity




Chance worse than Median of Equity




Chance better than 85th Percentile of Equity






46. It is important to note that these are not recommendations regarding appropriate asset mix. For example, 100% equity exposure might be justified for an individual in their twenties, but would probably not be prudent for an individual in their late fifties expecting to purchase an annuity upon retirement. What they do seek to point out is that investment and asset allocation decisions are complex and subtle, and should not be the subject of legislation.


47. It is also the case that the Board may well wish to exercise caution regarding over-exposure to a single asset class at any age.


48. The key point is that consideration of risk in the context of retirement income has to incorporate the risk of not achieving an adequate income.








VI Further Issues


Means testing


49. Much of the recent debate on Personal Accounts has focused on whether it pays to save, given uncertainty over future entitlements in the benefit system. The IMA believes that there will clearly be an issue for some people with respect to the interaction between saving and Pension Credit. It is therefore appropriate and necessary for modelling of the kind undertaken by the DWP and Pensions Policy Institute to take place to better understand the scale of the potential difficulties.


50. However, at the same time, the IMA does not believe that the complexity of the interaction constitutes a reason to abandon the basic principles behind Personal Accounts and the broader drive towards auto-enrolment. This is particularly the case given that the combination of a 4% employee contribution with the 3% / 1% match from employer and government will give younger cohorts a very strong chance of building a pot that will take them out of pension credit. It is also the case that a range of potential tools, for example, the capital disregard rules in Pension Credit, are at the disposal of future governments to ensure that people do not lose out as a result of saving in Personal Accounts.


51. To some extent, the problem exists anyway with respect to private saving and the benefit system. What makes the current reform more problematic is that voluntary saving does not come with government advice. The auto-enrolment procedure (for both Personal Accounts and qualifying schemes) effectively puts the Government in the position of suggesting to people that unless they have good reason not to save, then this is probably the right course of action.


52. The immediate question for Government, therefore, is the 'who and how' around the design and distribution of appropriate information / generic advice to allow people to make such decisions. Given that auto-enrolment is a national policy decision affecting the whole market, this responsibility seems to rest elsewhere than with PADA. In any case, PADA and the Board would have conflicts of interest if they were responsible both for the Personal Accounts scheme (whose ultimate success will depend on good participation rates) and advice as to whether or not to opt out.




53. The available evidence suggests that auto-enrolment can help substantially to boost participation levels in pension schemes.  The IMA recognises that auto-enrolment is a key component of the Government's proposed reform, encouraging both those employees with access to qualifying schemes and those without (who will be directed towards Personal Accounts) to save for their retirement.


54. The IMA believes that the uncertainty surrounding the conditions under which auto-enrolment can take place into contract-based workplace schemes is regrettable.  While we understand the difficulties involved in devising a regime that can satisfy the relevant European legislative requirements in this respect, we would urge the Government to clarify the policy direction at the earliest opportunity.  With the Personal Accounts scheme due to be launched in 2012, both industry and employers need to be able to plan effectively.  It would also be unfortunate if no means of achieving auto-enrolment can be found without major disruption to existing pensions industry business patterns.


January 2008








[1] The Investment Management Association (IMA) represents asset management firms responsible for the management in the United Kingdom of around 3,100bn of funds, including authorised investment funds and institutional funds.  About one third of the assets are managed directly for pension funds.  A significant proportion of pension savings is also invested via the life insurance industry.

[2] For the most recent data, see ABI, 'Retirement Savings in the UK: The State of the Nation's Savings 2007/2008', p. 34. When asked why they had not taken out a pension, 53% of those questioned replied that it due to no spare money, while only 11% who answered that pension charges are too high.


[3] In terms of the timing of the review, the suggested 2017 originally seemed to be sensible, coming five years after establishment. However, with the phase-in of contributions taking place between 2012 and 2015, and some suggestion from PADA that joining will also have to be phased in order to allow the infrastructure to cope, this date should perhaps be reconsidered. 2020, five years after full operation, might be a more realistic target for judging the full impact of the scheme.


[4] See 'IMA Response to White Paper: Personal accounts: a new way to save', March 2007, Paragraphs 38-39.


[5] We stochastically modelled 10,000 possible outcomes with returns selected at random from a normal distribution based upon real investment returns over the period 1899-2001. We modelled an individual on median earnings of 23,000pa who saves 8% of his/her income above the threshold of 5,000. This rises at 2.06% above inflation. We assumed annual management charges of 0.5%.