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Rethinking Retirement Saving Incentives for a Sustainable Future

This insightful research reconsiders retirement saving incentives in light of shifting demographics, stagnant productivity, and rising costs. By proposing innovative solutions, such as consolidating savings products and introducing the Lifetime ISA, the author suggests ways to boost savings culture and prepare for the challenges ahead.

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Rethinking Retirement Saving Incentives for a Sustainable Future

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  1. Rethinking retirement saving incentives Michael Johnson Research Fellow, Centre for Policy Studies www.cps.org.uk

  2. Central projection for PSND to GDP (%) 99% in 2062 - 63 100% OBR’s FSR July 2013 66% low (mid 2030’s) 90% 84% in 2063 - 64 80% 70% OBR’s FSR July 2014 60% 50% 40% 53% low 30% Ratio excluding 20% impact of ageing population (approx.) 10% 0% 1970 1980 1990 2000 2010 2020 2030 2040 2050 2060 PSND, £ bn. 20132014 April – August £42.8 £45.4 * OBR’s Fiscal Sustainability Report July 2013 ** OBR’s Fiscal Sustainability Report July 2014

  3. We face a personal debt crisis * Incl. credit cards, motor and retail finance deals, overdrafts and unsecured loans Source: Bank of England

  4. Savings (2012) and demographics OECD; National Accounts at a glance 2014. Definition for HNSR: the ratio of household saving (plus the change in net equity of households in pension funds) to household disposable income.

  5. The squeeze is on Ageing population / fewer workers per pensioner + Stagnant productivity growth + Rising interest rates (2015+ ?) = Fiscal squeeze + Approaching saving tipping point = Diminishing supply of domestic capital Cost of capital to rise We need a savings culture……but……

  6. Retirement saving: contributions, £ bn. EmployersEmployeesAssets Occupational £64.1 £14.4 Personal £9.9 £7.7 SIPP & SSAS - £6.0 c. £100 £74.0 + £28.1 = £102.1 £2.1 trillion c. £2,000 Subscriptions (+ £220 Cash ISA)

  7. Tax relief, 2012-13, £ billion Not deferred tax ! £270 billion of cash since 2001-02 HMRC; Table PEN 6: Cost of Registered Pension Scheme Tax Relief, February 2014

  8. Tax relief: inequitable distribution Income tax is progressive.. …..so tax relief is regressive Not deferred tax: many 40%ers only pay 15% i/c tax….. .......and decades later HMRC; Personal Incomes Statistics 2011-12, January 2014

  9. Behavioural considerations: Denmark DKr1 of gov’t spend raised total household saving by DKr0.01 Tax relief ineffective in increasing the nation’s savings Q: Is UK very different?

  10. Tax relief: policy options • Recent • AA: £255k…….£50k…...£40k….? • LTA: £1.8m….£1.5m ….£1.25m…..? • 25% tax-free lump sum? Savings 2012-13 £2.3 bn 2013-14 £4.4 bn

  11. Tax relief: proposals to boost effectiveness* • Scrap all tax relief 50p per £1 subscribed • Independent of taxpaying status • Max. £4,000 from HMT: focused on first £8,000 savings • Simple…… and highly redistributive • £30,000 annual contributions limit • 3 quid pro quos: • But……..Generation Y…….. • Scrap LTA • Re-intro 10p rebate on dividends • £100k IHT exemption on transfers to pension pots * Retirement saving incentives: the end of tax relief, and a new beginning, MJ, April 2014

  12. Time for the Lifetime ISA* • Combine today’s 4 ISAs + CTF • Cradle (+£500) to grave • HMT incentive……shared with pension products • Withdrawal rules: some ready access….to capital only • Round tripping mitigation • Tax • Nudges to promote default-based saving • Default fund / income accumulation / AE * Introducing the Lifetime ISA, MJ, August 2014

  13. Lifetime ISA vs. pension product

  14. Default fund design: passive • Costs • Av. annual trading costs 1.25% - 1.40% • Weighted av. TER* 1.56% - 1.66% • ≡ 66% of 4.5% equity risk premium • The tyranny of turnover: performance drag** c. 3% p.a. * 1.56% from IMA press release, 27 January 2012, for active retail UK equity funds, 1.66% from Lipper ** Data: Frontier Investment Management

  15. Outcome Luck + Skill "Fail" Top quartile 25 (2.3%) 17 (1.56%) 8 (0.7%) 1,061 (97.7%) Top half 138 (12.7%) 136 (12.5%) 2 (0.2%) 948 (87.3%) Active fund managers: no value-added? F&C consistency ratio: performance over 3 x 12 months The IMA’s 12 major market sectors: 1,086 funds (end-Q2, 2014) Daniel Kahneman: “there are domains in which expertise is not possible. Stock picking is a good example” Warren Buffett: “By periodically investing in an index fund, the know-nothing investor can actually out-perform most investment professionals”

  16. Conclusion • Capital crisis coming • Tax relief: the lowest hanging, juiciest fruit in Whitehall? • The Great Trade • Lifetime ISA to formally bring ISAs into the retirement arena • Chameleon, with saver in control • What future private pensions?

  17. Rethinking retirement saving incentives Michael Johnson Research Fellow, Centre for Policy Studies www.cps.org.uk

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