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Auto Enrolment has been a debatable topic since it was first implemented at the largest employers back in 2012. As time has passed, it has been rolled out across smaller businesses and there is now a lot of discussion surrounding Auto Enrolment for Small Companies. I wanted to share my own thoughts on the subject for anyone who might be interested.
Please note I am not a financial advisor and anything I write is merely journalism. You should draw your own conclusions about financial topics. I always suggest seeking professional advice.
The government has done a big review of pensions and concluded that there is a problem because not enough people pay into them. It’s a problem for society, really, because if people are unable to support themselves when they retire, it will fall upon the State to support them. To combat this, the government is trying to increase engagement by making it compulsory for employed people to join a pension scheme (although it isn’t truly compulsory because people will have the option to ‘op out’ if they choose to do so).
This short video gives a one-minute overview of what Auto Enrolment is:
Auto Enrolment applies to any company that has at least one employee. Even small companies. Even companies with just one employee. Even if that one employee is part-time.
A salary of £10,000 is the ‘trigger-point’ for Auto Enrolment. Any salary above this means an employee is an Eligible Job Holder and your employer is duty bound to put you into a pension scheme, which you then have the option to ‘opt out’ of.
If an employee earns less than £10,000 – but still earns above the lower earnings limit for National Insurance (approximately £5,600) – you are considered a Non Eligible Job Holder, which means your employer won’t put you in a pension scheme automatically but you do have an option to ‘opt in’ and the employer will have to make pension contributions, just as they would for an Eligible Job Holder. This applies to virtually all employees between 22 and State Pension age.
Employees outside these parameters (i.e. someone who earns less than £5,600, someone under 22 or someone over State Pension age) is considered an Entitled Worker, which means they will not be put into a pension scheme automatically. They can always opt into one but the employer isn’t entitled to make a contribution.
The aim of Auto Enrolment is to get most people to put 8% of their earnings into a pension, comprising 3% from the employer and 5% from the employee. This will be phased in for both parties, the rates for which are as follows:
The main impact of Auto Enrolment for small companies is that they now have to offer a pension scheme to all employees. They will also have to pay a 3% contribution for employees who earn over the lower earnings limit for National Insurance, providing those employees haven’t opted out.
In companies who have not previously provided a pension scheme, this effectively means your wage bill is going up by 3%. On the face of it this sounds bad but I personally don’t believe it is. It’s a rising tide – all businesses are in the same boat. Nonetheless, it is an additional cost and requires administration, which will either have to come out of profit or go on prices. I would suggest anyone running a small company simply reflects the increased cost in their prices.
From a company perspective, pension schemes are valued by employees. My business has always had a very generous company pension scheme (we contribute over 6% in ours) which helps us attract staff. It also helps retain staff. And the cost is built built into our overhead.
That being said, I do think there are a lot of companies who will struggle with this change, particularly smaller companies with a large proportion of part-time employees and little in the way of administration resource. I’m thinking hair dressing salons with direct employees, private garages, contract cleaning companies and so on. Auto Enrolment will be one more thing for them to worry about and they will have to pay fees to third parties (payroll companies, pensions advisers and so on) to help sort it out. They will also have to liaise with employees and explain everything to them, which could reflect badly on them if an employee isn’t satisfied with how they have dealt with it. On the flip side, if it is executed thoroughly, it could put the employer in a good light, so this works both ways. Nonetheless, business can be tough for for smaller companies and Auto Enrolment will be a hindrance to at least some degree.
I believe Auto Enrolment is a good thing for employees. Indirectly it is a pay rise; by giving up 5% of your earnings you will receive an additional 3% from your employer.
Your State Pension won’t be worth much now and this is only going to decrease as time passes. Employees, therefore, really should start saving into a pension scheme to supplement the State Pension. I know it sounds boring to someone younger, particularly those in their 20’s or 30’s, but you will thank yourself in the future for doing this. Don’t postpone saving into a pension now because you can’t imagine life that far off – you should play life by percentages – and the odds are that you will reach retirement age. People retiring now are likely to live well past 80. The advance of medicine could see this figure increase to over 90, or even 100, by the time you retire. Would you want to live the last years of your life, potentially decades, in poverty? Of course not, which is why you need to save for your retirement now.
I would add, however, that giving up 5% of your earnings is significant for a lot of people. This is a serious extra expense. And there are some people for whom opting out does make more sense financially, such as those with high-interest debts to service, like credit cards and pay day loans. Giving up an employer contribution in order to pay these types of debts down is sensible and they would be well advised to ‘opt out’ of the scheme, albeit temporarily.
I think the people who will suffer the most from Auto Enrolment will be the ones who are already mis-managing their finances. If you take a long-term approach, Auto Enrolment makes sense but if you can’t afford to give up 5% of your earnings because you are servicing high-interest debt then you are already on a slippery slope. If there is one rule to learn with finances it is simply to live within your means, whether or not you earn £10,000 a year or a million pounds a year, you should only ever do what you can afford to do. Because as soon as you don’t you, will be paying vastly more for everything. Cases in point: Brighthouse typically charges over 60% interest for products while Wonga charges up to 5,000% (!!!) for payday loans.
For anyone who can afford it though, I would definitely take advantage of a pension scheme at your company. You may be sacrificing 5% but you will also be gaining an extra 3%, so the net cost is really only 2%. I would add that pensions have just become a lot more attractive to many people since the Pension Freedoms were introduced (there’s an easy-to-understand explanation of these here).
You can now, if you chose to do so, access all of your pension at any age past 55. But don’t jump into this immediately – pensions have gotten more attractive in another way; unused funds in pensions used to be taxed at 55% on death of the policyholder, or their dependants. This has now been lifted. Consequently, pensions are now the greatest inheritance tax planning tool.
Remember, a pension is simply a tax-wrapper and not an investment within itself. You can make investments in many places (property or the the stock market being two examples) and use your pension as the vehicle. That being said, there are scenarios where you may want to consider using something different, like an ISA, because you have to wait until you’re 55. There is a lack of access when it comes to pensions whereas if you invest in stocks and shares through an ISA you can access the funds any time.
Anyway, I’ve always thought that a decent employer, even small companies, should provide a company pension scheme and employees should take advantage of it. The ageing population is a time bomb. The post-war ‘Baby Boomers‘ are going to put massive strain on the economy for the rest of us. They are going to live a lot longer than the previous generation and those of us who work will have to support them in their old age. The State Pension is only going to diminish. The smartest thing employees can do, in my view, is to get yourself into a position where you won’t need to rely on the State Pension at all. The best companies will provide a platform for this, no matter what their size.