[A-List] UK legitimation crisis: pensions rip-off

["Michael Keaney" <michael.keaney@xxxxxx>]

The great pension rip-off

Think you've been saving for a happy retirement? You'd have been better off
keeping your cash in a sock. While insurance firms get richer, our nest-eggs
could well be taken away by the government. Iain Macwhirter reports
The Herald, 17 November 2002

WHEN the pensions minister Andrew Smith comes calling later this month,
clutching his green paper on pensions and urging you to invest more in your
retirement, show him the door. Be polite but firm. Just say no. Pensions can
seriously damage your wealth.

Millions of people currently saving into private pension funds are wasting
their money. Most would be better paying off their mortgage, putting the
cash in a sock -- or spending it as fast as they earn it. For the rule with
pensions, unless you are rich, is that the more you save, the more you lose.

Equity-linked pensions, including the government-backed stakeholder schemes,
are one of the worst investment vehicles since junk bonds. Yields, even in
the boom years of the 1990s, were poor because of high commissions and
charges. Now they are simply a financial black hole.

If you don't believe me, consult your 'independent' financial adviser and
ask how much your equity-linked pension fund is worth now that the stock
market has crashed by 40%. Like many of the eight million people in Britain
who have these policies, you are likely to discover that your fund has
halved. The erosion has been magnified by the charges and commissions which
are deducted by insurance companies and their intermediaries whether the
market goes up or down.

Think that's bad? Consider this. The annuity your dwindling fund will buy
when you reach 60 has also fallen by more than half in the past decade as a
result of low interest rates. Many people are confused about how annuities
work, but they're simple. By law, you must use your pension fund to buy a
kind of insurance policy when you retire. This policy guarantees an income
till you die. Ten years ago, a fund worth £100,000 would deliver an annual
pension of around £9000 a year. But last week the best I could find,
inflation-protected at age 60, would yield £3400. And when you finally die,
the insurance company inherits the remainder of your fund, not your family.
Yes, the same insurance company that has been deducting charges and
commissions over 25 years wins the pot. Welcome to the wonderful world of
annuities.

Now, if you are a normal person, rather than an anal-retentive who spends
his or her free time perusing bank statements, your eyes will almost
certainly be glazing over right now. The very mention of annuities and
yields has a profoundly narcoleptic effect. But consider this. Sixteen
million people in Britain -- 54% of the working population -- will receive
an inadequate pension of less than 40% of their final salary, according to
Morgan Fleming Asset Management. As the population ages -- there are more
people in Scotland over 60 now than under 16 -- it is going to get
dramatically poorer. The optimistic forecasts of pension-rich 60-somethings
surfing their twilight years with money to burn were only an illusion
generated by the great stock-market boom of the 1990s. Now nemesis has
arrived.

The reason people are not fully aware of the crisis is that many of today's
middle-class pensioners are still relatively wealthy, because they are
living on pensions accumulated during the boom years. It is the next
generation that is running on empty -- the ones who will retire around 2020,
when the state pension will have fallen to less than 15% of average
earnings. The majority of these people have no pension at all. Faced with a
massive social problem, the government has been desperately urging people
who really cannot afford pensions to take them out, in the full knowledge
that for most of them it will be a waste of money. Things are so bad that
some pension companies are reluctant to even sell the government's
stakeholder pensions because they don't want to be accused of mis-selling.

Very few people understand pensions. I didn't until I started to investigate
the industry a couple of years ago, when I discovered how much of my
contributions were being gobbled up by commissions and charges.

Eventually you discover that the complex language of pensions is designed to
conceal a very simple reality. Equity-linked pensions are extraordinarily
risky investments -- and the risk is borne entirely by the purchaser and not
by the insurance company or the government.

Pensions assume that the financial system will remain stable for a period of
25 years or more: that the stock market will rise in a uniform manner year
after year. Yet, as everyone knows, every few decades or so the markets are
struck by wars, inflation, asset crashes. The pensions industry has
exploited our ignorance, and perhaps our greed, to sell an entire generation
fantasy-land insurance policies in which we, effectively, bet that markets
will never go down.

Taking out a pension is like betting in June that it won't rain until
September. But when it rains, it pours. Take an ordinary, hard- working
couple, John and Jean, about to retire next year. They entered the new
millennium with a pension fund of well over £200,000, which they had saved
hard for over their working lives. They thought they could look forward to a
comfortable retirement, but they are in for a surprise. That fund is
probably worth less than £120,000 now, and the annuity it buys will still
leave them dependent on the state pension credit to bring them up to the
basic minimum income level. In other words, they will get the same miserable
stipend they would have received if they'd never saved a penny.

A retired couple will need a pension fund of more than £150,000 to match the
£154-a-week minimum income guarantee (MIG) that the government is
introducing next year. Because the MIG pension is means-tested, savings up
to that level are simply handed to the Chancellor, since they make the
retired saver ineligible for the MIG. Yet thousands of low-income and
not-so-low-income people have been duped into putting their modest savings
into these funds.

Millions of people who have diligently saved to provide for their old age
are going to find themselves in penury when they retire. Most don't know it
yet. The pensions crash is far worse than the endowment and mis-selling
scandals of the 1980s because of the sheer scale of it. Britain bet hugely
on pensions. By 2001 we had invested £638 billion in them -- more than the
rest of Europe combined. Then the roof fell in.

This affects, directly or indirectly, more than half the working population
of this country. But what is most disturbing is that the government
continues to urge millions of people to invest in these pensions in the full
knowledge that most of them will simply lose it under means testing.

As so often with tax-free savings schemes, it is the rich who seem to
benefit. Tax-avoidance consultants quickly discovered that wealthy people
could take out stakeholder pensions for their grandchildren free of tax. Not
only that, but for every £2800 that grandad puts into a child stakeholder
account, the government adds £800. Don't ask me to explain why.

The intention was sound. The government wanted to encourage low earners --
between £9000 and £18,000 a year -- to put something away for their golden
years. But in doing so, ministers have implicated themselves in what may
come to be seen as the greatest pensions mis-selling scandal in history.

If you're in an (increasingly rare) final-salary company scheme, count
yourself lucky. You are insulated from the stock market because the company
guarantees you will get a proportion of your income when you retire. Not
surprisingly, these schemes are being wound up by many employers and
replaced with 'money- purchase' pensions. This is a euphemism for
unprotected policies linked to the stock-market. The government greatly
accelerated this trend by introducing stakeholder pensions -- low-cost,
government-backed private pensions linked to equities. This disastrous
innovation has legitimised corporate Britain's washing its hands of any
responsibility for its employees. Companies save millions by winding up
their schemes and telling their workers to take out stakeholder pensions.

Why has the government participated in this extraordinary fraud? Well, the
pensions industry persuaded successive governments that they could phase out
the state pension and allow private pensions to fill the gap. Hence the huge
tax breaks given to the industry in the 1980s and 1990s. Looking back, it
seems almost inconceivable that people could have been persuaded to buy
these policies, but we did. Millions of us. I did.

So what happens now? The government is currently debating whe ther or not to
make it compulsory for people to pay into private pensions. It hopes low
earners will still pay into them after the new means-tested pension credit
emerges next year. It is also considering a supplementary second pension,
where the state will add £1 to every £1 saved. But that will have only a
marginal effect.

The only real alternative, as called for by former pensions minister Frank
Field, is to restore the value of the basic state pension , restore the link
between pensions and average earnings and allow people to keep whatever they
have saved over and above. This is the only fair solution. It makes more
sense for people to save with the government than through the stock market.
Only the government can iron out booms and slumps and ensure people do not
suddenly lose their livelihoods .

It would require a new contract with the nation, increased national
insurance and almost certainly an increase in retirement age to 67 or 70.
The government has a unique opportunity to seize the political moment. Nine
out of 10 people have lost faith in pensions, according to the polling
organisation YouGov. People are living longer and are capable of working
longer too . We know we get nothing for nothing, and that our dreams of
golden old age have turned to dust.

So if the government fails to take this opportunity, it may live to regret
it. This has been a slow-burning scandal, but people are catching on fast.
They won't get fooled again. If Labour doesn't do something sensible next
week, pensions could turn out to be Tony Blair's poll tax.

Those Pensions Explained

What are personal pension plans?

Launched by Margaret Thatcher's government in 1988, these are administered
and invested by insurers, banks, fund managers or building societies. The
government's launch advertising campaign showed an imitation Incredible Hulk
breaking out of his chains, advising the public to break out of the
restrictive chains of an occupational pension scheme and organise their own
plan. Compulsory membership of occupational schemes was outlawed in the same
year. People were lured out of good occupational schemes and into high-
charging personal pensions at potentially massive cost to their retirement
income. The scandal has caused immense damage to the finance industry's
reputation and has cost it around £11 billion in compensation.

What are occupational pension schemes?

These are set up by employers for their employees and can use either the
final-salary or money-purchase model, or a hybrid of the two. They have
certain limits in terms of employee contributions and income on retirement.

What are money-purchase schemes?

Sometimes known as defined contribution schemes, these are occupational
schemes under which the employee bears all the investment risk. They are
much less burdensome for employers than final-salary schemes -- but are
usually much less generous to the pensioner. According to the National
Association of Pension Funds, companies pay an average of 9% of salaries
into final-salary schemes but just 6% to money-purchase schemes.

What are final-salary pension schemes?

Otherwise known as defined benefit schemes, these are schemes in which the
employer effectively guarantees a fixed proportion of your final salary when
you retire. But they are rapidly becoming very scarce.

What is stakeholder?

Stakeholder, introduced by the government in April 2001, has its annual
charges capped at 1%. The aim was to persuade people earning less than
£18,000 to save for their retirements. Suppliers such as Standard Life and
Norwich Union have abandoned stakeholder because of low levels of take-up.

One Family's Fears

Sarah and Gavin Anderson are both 35 and live near Stirling with their four
young children. Sarah is a job-sharing primary-school teacher, and Gavin
runs his own heating and plumbing business. Between them they have five
pensions, one of which is linked to their mortgage, and a variety of savings
schemes for their children.

Sarah: 'When I started teaching 14 years ago I took out my employer's
pension, which I still have, although now that I'm part-time my
contributions are on a pro-rata basis. I would say the payments for that
were so manageable I hardly even noticed them coming out of my salary.

'Gavin would like to retire early, but I need to take some advice on whether
I can do that or not within my employer's scheme. Recently I have been
wondering how realistic that would be. When I looked at statements properly
for the first time last year I felt a hint of panic rising.'

Gavin: 'When I started working at 17 I joined my employer's scheme, as I had
it firmly in my head that I wanted to retire at 50. I contributed to that
for four years, and I have two private pensions, and a fourth is linked to
the mortgage.

'You would think with that amount of money put into pensions we would be
well set up financially, but increasingly I have been considering stopping
pension contributions and investing the cash in a second property that would
be our principal nest-egg.

'I just feel that we are putting more and more of our incomes into pensions
without any guarantees at the other end of a decent retirement, and I think
property would be a better investment.

'I do think the government should have made a louder, clearer warning years
ago about the need for a private pension -- although I started mine at 17,
I'm not even sure if that will pay off.'