A contribution charge would provide "the only fair and practical solution" to funding personal accounts, says the ABI.
In a speech on implementing personal accounts today, Maggie Craig, director of life and savings at the ABI, recommended a contribution charge in addition to an annual management charge (AMC).
She says: “If charges are high, that will only encourage high rates of opting out and significantly compromise income returns down the line. Equally, charges that are too low will require sustained high levels of supporting public subsidy, penalising the taxpayer and the large numbers of those who will choose to save outside personal accounts.
“Like so many things, there needs to be a workable balance, and strait-jacketing personal accounts into a very low charging rate will not deliver. Personal accounts must cover their costs and any initial borrowing must be paid off in reasonable time."
Last year research by the Pensions Policy Institute (PPI) and the Department for Work and Pensions (DWP) showed relying solely on an AMC would generate little income in the initial years after 2012. In this case the Government would have to borrow between £1.7bn and £4.5bn.
Craig says an annual or joining fee would act as strong disincentives for new savers but an AMC linked to a contribution charge “would in all probability strike the right balance between encouraging saving and providing adequate scheme revenue”.
The research says this type of hybrid charging model would allow the Government to pay back all borrowing required for personal accounts in the run up to 2012 by 2017, and the contribution charge model would flatten out the variation on the impact of charges between individuals that a pure AMC would cause.
Craig highlights the Government would not require a contribution charge when people choose not to pay into their personal accounts.
Steven Cameron, head of business regulation at Aegon, says: “It is encouraging to see a clear acceptance that a flat annual management charge isn’t the obvious starting point. But I’m puzzled as to why PADA believes there are commercial sensitivities over publishing its financial modelling.
“There is strong potential for a timing mismatch between charges received and costs incurred. PADA faces upfront costs in establishing the personal accounts scheme which may only be recouped over the longer term. Undue focus on a flat annual management charge structure or on keeping charges low at the outset could build up financial pressures for the future which could push up the costs for members at some later date.”
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“A contribution charge will benefit members paying higher contributions as the fixed cost will represent a lower percentage of monies being invested. However, a fixed cost will penalise lower earners making smaller contributions, as this will make up a larger relative proportion of their salary. Given that the Government has designed personal accounts specifically with lower earners in mind, this would seem a regressive step.
“Most defined contribution plans currently operate with an annual management charge only, with pension providers working on the assumption that the plan will become profitable in three to five years. This business model works well and although there are valid arguments for making personal accounts profitable more quickly by levying a joining fee, the justification for doing so does not seem strong enough.
“Annual management charges, which levy a fee as a percentage of the fund value, have been criticised as being unfair on larger funds but there are various ways to overcome this, such as capping the amount that can be earned in any one year, or reducing the annual management charge as the fund grows in size. Controls of these types are should be looked at carefully by PADA as they would be likely to encourage members to save more.
“Given the options available to PADA, in order to encourage individual saving and create a relatively simple system, Aon Consulting would recommend an annual management charge that starts at a higher level initially – say 0.5 to 0.6% - but reduces as the individual’s fund reaches specified amounts.”
Helen Dowsey is head of defined contribution at Aon ConsultingIFAonline
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