Are We Doing Enough to Prepare for Retirement?

Emma Wall: Hello and welcome to the Morningstar series 'Ask the Expert'. I'm Emma Wall and here with me today is Patrick O'Sullivan, Director for Redington.

Hello, Patrick.

Patrick O'Sullivan: Hi, Emma.

Wall: So it seems there's been some changes in the pensions industry and the onus is a lot more on the individual, rather than the state or the employer, to take responsibility for the future of our retirement. Are we doing enough?

O'Sullivan: That's really kind of the core of what we found when we did our Age of Responsibility report. That in this new world actually are people saving enough? Is the policy and guidance out there and what employers are doing enough to make sure that people are actually going to have a comfortable level of income in retirement? And that's absolutely right. I think we looked at some numbers which say, and you can look at a variety of different, that the savings right at the moment within the U.K. is kind of close to about 5%.

Auto-enrolment is a policy measure that's been put in place, as you know, which will get us to about an 8% savings rate by 2018.

But actually we think the number needs to be closer to around 15% for someone. And that's throughout the life of their savings for their retirement. If clearly if they haven't had any savings and they've got 10 years to go it's a different number, but it's likely to be higher than that number.

Wall: And that's because for pensions now – the majority of workplace pensions and indeed personal pensions – the income you get at the end is determined by what you put in during your working life. It's defined contribution pensions, rather than defined benefit, where the income you get in retirement was based on your wage when you retire.

Which means that, if you just do some quick sums, you could have got away with not making that many contributions and still have quite a nice pension, whereas that's not the case anymore.

O'Sullivan: Absolutely right, yes. So that big shift is really interesting. There is a huge emphasis and interest in pensions recently because of really the March 2014 Budget how political it’s all become.

But actually the big shift that’s happened has been the shift away from the final salary type of pension schemes which you mentioned, the defined benefit pension schemes into DC.

I think DB probably peaked in the Seventies and since then it's been coming down, and certainly DC for all new pensions or pension entitlements is definitely the main stay.

And that shift really has been that shift from employer to the individual and in that context people or certainly the employers don’t have that onus to create that income in retirement.

However as a society, our social norms our social conventions are still built on that idea; if I work 40 years and I pay my taxes, do what I should be doing at the end there will be a pension for me – either from the state, or a reasonable state pension plus also an employer's pension.

And that culture, that convention, isn’t there anymore with the demise of these final salary defined benefit schemes.

Wall: So is it as simple as just saving more, earlier?

O'Sullivan: Unfortunately that is it. I'd love to say, there is a silver bullet to this, but you can do the fanciest investment strategies, and most sophisticated things, and dynamically manage it and call markets perfectly… but unfortunately if you are not putting in enough and not putting it in early enough, it's no matter what you do in the investment side, it might not create that comfortable level of income in retirement.

Wall: You mentioned the 15% savings rate, that’s based on what? 15% of your annual income needs to be put into a pension? Is that you who has to sacrifice 15% or is that you, the employer and the state combined is 15%?

O'Sullivan: Another great question. What we have tried to do and certainly in the report and the message that Lord Hutton gave at this report is – is actually call for a bit of consultation and exactly what shape should that be in. I think we put out a number there, 15% to really start the debate and welcome that consultation on well, how much should that come from the individual, how much from the employer, how much from the state?

Wall: What do you say to people who just can't see a way of sacrificing anymore of the household budget towards that kind of long-term savings goal?

O'Sullivan: Again, it's very difficult. We have some behavioural research in our report which talks about how difficult saving is in general because it's passing up the chance to consume and spend and instant gratification.

It's even more difficult when you are talking about a pension which is saving for something, that's going to happen in 30 years' time. If you are young it might not happen for 40 years, it's very hard to see exactly what it is.

So with that, people need to be helped and they need to be helped either through policy and auto-enrolment is a step toward that. By the end of next year all employers will have to have a pension scheme in place for their employees and that's a step. That's getting you to contribute something. Obviously that will build up over time, but there has to probably be a bit of change in social norms really to get people to save.

I am not sure of your parents, but my parents had defined benefit schemes, so they didn't have to really talk about their pension, it was something that wasn't at the kitchen table because it was something that was going to be taken care of. And so as a society we don't really talk about how much we're contributing, we don't talk about with our friends, what you are saving for retirement, how long we're going to live.

So all of that social convention needs to be changed and that's the responsibility of the media, it's responsibility of us within the industry and everyone really, to try to kind of develop those things and break some of those taboos.

Wall: Patrick, thank you very much.

O'Sullivan: Thank you, Emma.

Wall: This is Emma Wall for Morningstar. Thank you for watching.