FOOL'S EYE VIEW
How We Solve The Pensions Crisis

By Alison Hunt (TMFAlly)
November 10, 2005

It seems hard to believe that the UK's pension system was once the envy of the world. All that we hear nowadays are fresh warnings that we will live in abject poverty when we retire. Indeed, many of us will find that our retirement income will fall woefully short of what we had hoped for.

So what's the problem?

Essentially, over the next thirty years, the proportion of the population aged over 65 will rise from 16%, to 25%. As a result, if we all want to retire at the same time as we do now, there won't be enough workers paying tax to provide a decent level of state pension (and it's hardly decent at the moment). What's more, around half the population retires before reaching State retirement age - 40% of private pensions go to those retiring early.

Additionally, stock market falls since 2000 have caused shortfalls in pension funds. And increased life expectancy adds to the problem, too. A recent survey revealed that the life expectancy of men aged 65 could rise in the next decade by three years, to nearly 90. And of course the longer retirement lasts, the more money is required.

A number of employers are also continuing to withdraw from pension provision by closing defined benefit schemes to new employees and providing replacement schemes with much lower levels of contributions.

And sadly, we're not helping ourselves, either. It's been estimated by the Pensions Commission that twelve million British workers are either saving nothing, or putting aside too little for retirement. With one in five older people currently living below the poverty line, the majority of which are women, it doesn't bode well for the future.

Women's pensions

Probably those to be worst hit in retirement will be women. Taking time out of their working lives to bring up children or care for elderly relatives has meant that many have failed to build up the necessary 39 years of National Insurance (NI) contributions required to obtain a full State pension in retirement.

And although Home Responsibilities Protection (HRP) aims to protect their State pension by reducing the qualifying years necessary for those who claim Child Benefit, Income support or a carer's allowance, this has only been in existence since 1977. Women who had their children before this time may find they have significant gaps in their NI contribution record. And although extra NI contributions can be made to make up some of the shortfall, this can only be back dated to the last six years.

Additionally, the vast majority of part-time workers are women, for whom the pension system is not really set up to accommodate. Indeed, fewer than a third of women currently retired are entitled to the full State pension and 2.2m women are not building up a State pension at all, either as they are not working, or do not earn enough to pay contributions. No wonder the Government has called women's pensions a "national scandal".

So what's the answer?

Well, you may have heard that Adair Turner's report for the Pensions Commission is due at the end of this month. The aim of this report is essentially to state what Britons need to do to solve the impending pensions crisis. What's more, the Government has promised to act quickly on its recommendations. Here are a few of the possible solutions that have been suggested:

1. Citizen's Pension

One idea that has been regularly mentioned is to do away with the basic State and State Second pensions and replace them with a so-called "Citizens pension". Instead of being based on NI contributions, this would be based solely on residency and would mean that everyone would essentially get the same, flat-rate allowance, which would be around 30 per cent more than the present basic State pension. Further funding would be obtained by scrapping existing means tested benefits, such as Pension Credit which is costly to administer.

This scheme would certainly afford a better deal for the eight million people, including many women, who would not be entitled to a full basic State pension due to gaps in their NI contribution records. And as it's estimated that a quarter of those entitled to pension credit do not claim due to either being put off by its complexity, or the stigma attached to means testing this would clearly mean that this money would reach more of the people for whom it was earmarked. However, this may be looked upon unfavourably by those that have made their full NI contributions over the working life.

2. National Insurance Credits

This would mean replacing Home Responsibilities Protection (HRP) with a credits system. Instead of reducing the number of qualifying years required for entitlement to the full, basic State pension, credits could be issued instead which could replace them. This would provide a fairer system and, if the time allowed for extended voluntary contributions was extended to more than the current six years, many more of us could maximise our basic State pensions by filling in any gaps in our NI contributions records.

3. Compulsory Pension Saving

Pensioners currently receive, on average, around half of their income from the State pension and other benefits. The Government has said that it would like to see an increase in the proportion of retirement income that comes from other sources, such as personal pensions and savings. However, with four in ten of us saving nothing, or far too little for retirement, this seems an unlikely prospect.

One solution would be to introduce compulsory saving, where we would all be forced to save a proportion of our income for retirement. If employers were made to contribute too, this could be a good way to deal with the crisis - in fact; many believe that employers should be at the centre of pension provision. Of course many of us do this already, through our employer's pension scheme. However, this would mean that everyone had to contribute to their own retirements.

4. Increase Retirement Age

The current retirement age for men in the UK is 65. For women, this is currently 60, although this level is set to rise to 65 from 2010, over a ten year period. By increasing the age at which we can claim our State pensions to 67, or even 70, we could ease the pressure on pensions. However, this has proved to be one of the least popular solutions with a number of trade unions.

5. Encourage Saving

An important factor that shouldn't be overlooked is the need to encourage individuals to save. This could be achieved by not only raising awareness regarding the importance of saving for retirement, but also by highlighting the risks of not saving at all.

Of course, many people are concerned about contributing to a pension due to the risks involved. However, the introduction of the Pension Protection Fund (PPF) will provide protection for those in private sector defined benefit schemes and should help to restore confidence in occupational schemes. Indeed, according to research from the Association of British Insurers (ABI) one in four people say the PPF will help to increase our trust in pensions. We should also remember that there is more than one way to save for retirement. Utilising your ISA allowance can provide an effective method of long-term investing - though as always, you should aim to keep any charges to a minimum.

Let's hope that the Pensions Commission's report will come up with some sustainable long-term fixes to deal with the current and impending crisis. However, in the meantime, it may just be worth looking into your own retirement situation to see how you stand, now!

You can find out more about saving for retirement in our Pension and ISA centres.