1. "A straight AMC is viewed as unfair"
Before the introduction of stakeholder pensions, personal pensions were festooned with charges. The management charges of personal pensions are listed in the ABI Response. The Friends Provident Response says:
"The AMC only structure was the type decided upon when stakeholder pensions were launched. ..
The rationale for pension charging structures is the introduction of stakeholder pension schemes and regulation around the selling of other pension products. In other words, regulation is responsible for pension products only operating an AMC, generally within the stakeholder charging cap."
Unfortunately the AMC has a fundamental problem. It continues:
"An AMC only charging structure means that their charges increases as their fund increases in value out of all proportion to the ongoing administration costs."
Which results from the AMC in general in: unit trusts, open-ended investment companies, insurance bonds; not just from the "AMC only structure" in stakeholder pensions. The Fidelity Response says:
"A straight AMC is viewed as unfair, as charges increase as the pension pot increases, while the work required to administer the scheme remains the same."
and the Vertex Response:
"A regular saver will see charges in year one double in year two (assuming same contribution and fund growth) though they are not receiving any additional service benefits to justify an increase of 100%."
2. "Simplicity and transparency"
The Summary of Responses x refers to "An AMC-only structure", "The Annual Management Charge (AMC) - the simplicity and transparency of this option" (page 3). There is much literature such as:
"Stakeholder is simple - there is only one charge - an annual management charge." x
But under Section 13 of the stakeholder regulations x there are in addition "expenses, commission etc." and under Section 14:
"(5) The value of a member's rights under the scheme may be reduced -
(c) where any stamp duty or other charges are incurred directly in the sale or purchase of securities or property held for the purposes of the scheme, by the amount of such of those charges as are attributable to the member's rights."
3. Administration
The Xafinity Paymaster Response says:
"The cost of administration is directly related to the number and type of pension scheme members (not the level of contributions or the size of the fund)."
and recommends a capped administration charge:
"We believe that the best way to recover these costs is via a quasi-flat fee (a capped administration charge) as it is closest to the existing well-established method used for pension administration and enables a close match with the costs of administration."
pointing out that the administration charge of the Swedish PPM scheme is capped:
"The PPM scheme was launched in 2000. Initially the cost for administration of the scheme was charged on a pure AMC basis. Last year a decision was taken by parliament to cap the cost of administration at SEK 100 (c.£8.50). This decision was not controversial in any way.
The reason the cap was introduced was because it was not considered to be fair to charge a large amount of money for someone who has a large pot since the running cost is basically the same for everyone in the scheme.
However they did not want to charge a flat fee for people who have a very low value in their account as it would not be fair to charge SEK 100 to someone who only has, for example, SEK 300 in their account." x
4. Fund management
Unlike administration costs, the cost of fund management must be larger for larger funds. There should therefore be separate charges for administration and fund management. The charge for fund management depends on how fund managers are remunerated, and whether the fund is an index-tracker. Several respondents such as ACCA, point out:
"At this stage, the consultation is being undertaken in isolation from any information on what PADA’s costs are going to be."
Costs will be minimal if the funds are index-trackers, and transactions with members are on-line through the internet. Zurich Response said:
"PADA should allow for a review of charges once the scheme is up and running."
The EDS Response recommends:
"The AMC should be collected through the fund managers to reduce administrative costs."
But fund managers will not be able to do this, because they are not responsible for administration of the units held. This is the responsibility of the Personal Account Scheme, "a central body that collects contributions".
Administration is being separated from fund management. There should also be a clear distinction between charges for administration and for fund management. The accounts of occupational pension schemes generally distinguish between costs of administration and fund management.
The term "annual management charge" is too vague. I recommend Personal Accounts have: a) an "administration charge", b) a "fund management charge".
5. The remuneration of fund managers
The funds of occupational pension schemes are often handed over to fund management companies to be managed under mandates. This is not appropriate for Personal Accounts because they are relatively small amounts. Personal Accounts should retain funds with custodians in-house. The Scheme should appoint stockbrokers itself, rather than leaving this to fund management companies.
If funds are handed to fund management companies, they may collect all sorts of fees resulting in hidden charges. It will be difficult to keep tract of transaction related costs. The Treasury website says.
"Transaction costs are an important cost to pension funds. For trustees to fulfil their duty to act in the best interests of their beneficiaries, trustees must ensure that these costs are properly managed." x
The Which? Response says:
"It is difficult to disentangle the issue of charges from the issue of financing."
We should not try to. Charges should relate to costs. But the Consultation Paper Choosing a charging structure x says:
"The payment mechanism and performance management regime need not be related to the way in which they are charged." (last sentence, page 48) x
How does the PADA propose fund managers should be remunerated? Will they be working in-house and paid salaries? How easy will it be to change fund managers if they perform poorly? This is hardly an issue if the funds are index-trackers.
6. Two charges
I suggest there should be: a) an "administration charge", b) a "fund management charge"; which pay separately for administration and fund management.
The administration charge could be flat rate if it is sufficiently small, otherwise it should be calculated as a percentage of capital and capped. Xafinity Paymaster Response says:
"The rationale for the standard flat fee charging mechanism for pension administration is that it is the mechanism which best matches the costs associated."
The fund management charge should be either a percentage of capital and also capped, or it could be on a sliding scale, depending on how fund managers are remunerated.
Caps are discussed in the Responses of Fidelity, Friends Provident, Vertex, Xafinity Paymaster, but not in the Consultation Paper which does not mention "cap" or "sliding scale". The Friends Provident Response said about the AMC:
"So far as members are concerned those with higher funds will pay a greater charge when the cost of administering their account may be the same as those with smaller funds."
This applies to administration as discussed in Section 2 above. It probably also applies to some extent to fund management. The Summary of Responses reports under the title What you said:
"2.24 Contribution charge and AMC, where the total amount paid per month or year is capped: under this option, the charge would be taken as a percentage of both the total contribution paid into each individual’s pension pot and the total funds under management in each pot. However, the overall amount paid in charges would be capped each month or year, meaning above a set threshold members pay a flat fee."
This puts a cap on the sum of a contribution charge and a AMC on capital. I could not find (at the time of writing) any Response which makes exactly this proposal. Friends Provident and Vertex come close. The former suggests a sliding scale rather than a cap. The latter suggests a capped "administration charge" made up of a contribution charge plus part of an AMC on capital:
Personal Accounts will have automatic enrolment with the option to opt out. Some Responses point out that a joining fee will increase the probability of opt-out, such as the Society of Pension Consultants:
"Paying a fee to open a personal account would almost certainly be an incentive to opt out."
and the ACA Response:
"Any joining fees or contribution charges are likely to have a negative impact on the participation levels."
If you deposit money in a bank, there is not a contribution charge. I disagree with having any joining charge or contribution charge.
7. Are Personal Accounts viable?
I share the misgivings about Personal Accounts of one correspondent:
"The problem however with the PADA is that apparently you cannot transfer out and apparently you are forced to buy an annuity, you can't do drawdown (or transfer out at retirement to do drawdown). These onerous and old fashioned terms will not be attractive to anyone who takes saving and investing seriously. I have lost interest in the PADA since I heard about this as I suspect it will be a total failure."
Another problem is the possible loss of means-tested benefits as the result of joining the Scheme. I asked the PADA whether people with Personal Accounts will be forced to buy annuities when they retire. In reply they said that they will be publishing a consultation report on decumulation. This seems to imply that there may not be compulsory purchase of annuities. People should be able to get their money out as cash at any time, as advocated in an article in the Financial Times (18/11/2008):
"Withdrawal would be allowed at any time and would be taxable at that point. The requirement to delay withdrawal and buy a pension could be abolished; this would reduce complexity and increase attractiveness." x
People being locked into products and schemes which they dislike is a major industry problem.
The proposed choice of funds seems like a parlour game based on vague personal opinions. The Vertex Response refers to:
"A reasonable range of perhaps up to 12 funds to be made available including Ethical, Sharia, Green etc."
In my opinion this is just an unhelpful and embarrassing dilemma which increases complexity and costs. People are apparently going to be given a confusing mass of information about a range of funds: "Ethical, Sharia, Green etc". In answer to Question 13 in the Consultation Paper about the administrative complexity of financial products, the Friends Provident Response said, referring to pensions:
"Our experience is that members find the amount of paperwork they are given daunting and disengaging - there is simply too much paperwork which hides the real benefit of joining - a free employer contribution."
8. The Freedom of Information Act
Respondents to consultations usually like their responses to be published. They seldom request confidentiality. The Responses to the Consultation Paper were published following my Freedom of Information request, with only part of 1 out of 47 responses withheld:
"This information is being withheld as it falls under the exemption in section 4 of the Freedom of Information Act. This exemption covers commercial interest, were release of the information is likely to prejudice the commercial interests of any person."
In my opinion such requests to see responses should be made more often. But responses should be published without requiring requests. I have made a Freedom of Information request to see the responses listed in the Government Response to Effective Consultation. x This is likely to result in publication, but only after a delay, since the Response was published in December 2007.
The Consultation Paper contains standard text about the Act starting:
"7.7 Under the Freedom of Information Act (2000), all information contained in your response, including personal information, may be subject to publication or disclosure. By providing information for the purposes of the public consultation exercise, it is understood that you consent to its disclosure and publication. "
The second sentence should come first, because personal information is excluded from the Freedom of Information Act without this consent. The paragraph needs rewriting. For example "publication or disclosure" in the first sentence should surely be followed by "publication and disclosure" in the second sentence. I have corresponded with the DWP and BERR about this paragraph. They agree that it needs correcting. It would be best to be able to say simply:
"All response will be published. Those from individuals will include names but not addresses."
25th August 2008