UK Pensions: Labour Must Offer More Auto-Enrolment Reforms to Help Low Paid

The UK government is manipulating the phenomenon of inertia. Its auto-enrolment experiment, which will see millions of workers placed into workplace pension schemes by their employers, has been introduced because people aren't saving enough for retirement and they're living longer than ever.

The hope is that once an employee has been enrolled into a workplace scheme, the person – knowing full well that they should be saving for cruises around the Med' and other elderly pursuits – will not opt-out of the scheme.

The initiative is working so far. Only around 10% of workers who have been placed into a workplace scheme under auto-enrolment have opted-out, according to official figures.

But what are the benefits? Well, employees will eventually have to contribute at least 4% of their qualified earnings and employers will have to contribute 3% as well as 1% in tax relief from October 2018.

The auto-enrolment earnings trigger is £10,000 ($16,734, €12,293) for the 2014/15 tax year. Labour wants to change this.

The Shadow Work and Pensions Secretary Rachel Reeves has pledged to reduce the earnings trigger to more than £5,773 – the current national insurance lower earnings limit and a threshold mooted in the 2005 Turner Commission – if her party wins the next general election.

Reeves hopes to bring an extra 1.5 million into workplace saving with the move in a bid to help "ordinary workers secure a decent income in retirement".

But is Reeves's policy feasible?

Consider a low paid worker who has a basic yearly salary of £14,000. We can figure out the employee's qualified earnings by deducting £5,772 off their pay, the amount left and eligible for pension contributions is £8,228.

With the 4% auto-enrolment contribution in 2018, that works out at £27.42 per month out of the worker's take home pay – which is not burdensome.

So it seems Reeves's proposal is affordable for low paid workers. But what about the dangers of playing with inertia? Herein lies the real problem with the whole auto-enrolment scheme.

By dropping employees into a scheme with relatively low contributions, what happens when they come to retire? There is a strong likelihood that they will not have sustainable retirement income.

Using our previous example, it would take 30 years with the total minimum pension contribution levels of 8% to create a total pension pot of £19,747 – or £1,645 a month.

To put that figure into context, the average UK household spends £1,956 in total a month, according to Office for National Statistics.

This isn't a "decent income" for people to live off. The Independent on Sunday and advisory firm Liberty SIPP estimated in 2013 that workers would need to save up for a total pot of £220,776 to buy an income equivalent to the then National Minimum Wage rate of £6.19 per hour or £12,115 per year.

This issue is well known to the Pensions Minister Steve Webb.

He told MoneyMarketing in April that a minimum total auto-enrolment contribution hike will be part of the Liberal Democrats' 2015 General Election Manifesto. Will Labour follow suit?