Auto-enrolment pension scheme to take the path of least resistance

From late next year, every employee in Ireland aged between 23 and 60 and earning more than €20,000 will be automatically enrolled in the new national pension scheme if they are not already a member of an occupational scheme.

The scheme is “soft mandatory” – after years of debate about whether it should be compulsory or voluntary, the Government chose mandatory enrolment with the ability to opt out at certain times. Proponents say it would be politically impossible to overcome the pushback against a mandatory scheme which many people would perceive as a new tax.

In order to minimise resistance, it was decided to start with low contribution levels and increase them over time. This has proved successful in other countries, including the UK.

“Contributions will be phased in so that everyone can get used to the new system without a steep change in income,” says Caitriona MacGuinness, defined contribution and private wealth leader for Mercer Ireland.

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Employee contributions will start at 1.5 per cent of gross pay up to €80,000, increasing to 3 per cent in year four, to 4.5 per cent in year seven and to the maximum rate of 6 per cent in year 10.

“All employee contributions will be matched by their employers and topped up by the State,” adds MacGuinness.

Contributions made by employees will not be subject to tax relief. “The state will provide a top-up contribution,” MacGuinness explains. “Initially when individuals contribute 1.5 per cent of salary, the state will top this up by 0.5 per cent on all gross earnings up to €80,000.”

The state top-up will eventually rise to 2 per cent when the individual’s contribution reaches 6 per cent. That will give a total contribution of 14 per cent, made up of 6 per cent each from the employer and employee and 2 per cent from the state.

That top-up equates to tax relief of 25 per cent, a lot less than the 40 per cent enjoyed by top-rate taxpayers who are members of occupational schemes. On the other hand, it is better than the 20 per cent relief available to those on the lower rate of tax. Contributions will be fixed and employees won’t be able to contribute less or more than the set rate.

“Within the national system, employees will only be able to contribute at the set level, at least during the initial period,” MacGuinness points out. “While the Government intends in time to facilitate additional contributions in the national system, employees who wish to save more for their retirement at the outset will have to do so outside the national system. Neither their employer nor the State will be under an obligation to match any additional contributions made.”

Employees will have the ability to opt out six months after enrolment but will be automatically re-enrolled after two years if they are still eligible. They will also be able to pause their contributions under certain circumstances.

If a member changes employment the new employer will take on the obligation to match their contributions to the scheme. However, that may be easier said than done.

“It sounds great but what happens if you go from one company to another which doesn’t offer the auto-enrolment scheme?” asks Bernard Walsh, head of pensions and investments at Bank of Ireland.

Walsh believes this highlights a problem regarding advice. “Our research has revealed quite a low level of understanding in relation to pensions,” he says. “There is no provision for advice to members in the new scheme.”

Members’ investments will be managed by up to four commercial investment providers.

The intention is that each will provide four fund types, says MacGuinness – conservative, moderate risk, higher risk “and a default fund which will be a lifestyle option”.

Members will have no direct relationship with the providers and will not be able to choose among them.

“The current thinking is that the investments are envisaged to be allocated on a carousel basis of different investment managers, whereby when you join you are allocated an investment manager and then when another member joins, they can be allocated another manager on a random selection basis,” says Maria Quinlan, head of LifeSight Ireland.