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Plugging the pensions generation gap

Author: ICAEW Insights

Published: 23 Jun 2023

Cost-of-living pressures are ramping up the focus on young people’s low engagement with pensions. What will help to improve the picture, and who should be leading the charge?

The cost-of-living crisis has exposed some sobering truths about young people’s relationship with pensions and security in later life.

Almost a third of working 18 to 34-year-olds know they should be saving more for retirement, and only 16% think their savings are on track, according to research from financial wellbeing and retirement specialists WEALTH at work published last September. Meanwhile, a fifth have no idea how much their pension is worth and almost a quarter don’t know how much they will need to save for a comfortable retirement.

Perhaps more worryingly, half of adults aged 18 to 34 have either reduced any form of regular savings or stopped them altogether.

The same month, pensions provider Penfold revealed that 17% of 18 to 24-year-olds are opting out of pension contributions, with a third of Gen-Z savers citing their primary savings goal as home ownership.

In response to concerns about a dropping-off of retirement saving among younger people, a government-backed Private Members’ Bill published in March proposed to abolish the Lower Earnings Limit for pensions contributions and cut the eligible age for Automatic Enrolment (AE) from 22 to 18 – measures that Minister for Pensions Laura Trott said would help “groups such as women, young people and lower earners who have historically found it harder to save for retirement.”

The following month, in October last year, the Institute for Fiscal Studies (IFS) launched a major new review of the UK pensions system. It warns that the challenges facing future generations of pensioners would disproportionately affect those in the younger demographic. And without policy action, many are likely to face substantial financial difficulties in older age, the IFS warns. 

Inherent challenges

IFS Associate Director Jonathan Cribb – Head of the think tank’s Retirement, Savings and Ageing unit – warns that younger people have had just as much of a stake in some of the past decade’s biggest pensions policy changes as their pre-retirement colleagues. 

“For example, look at the 2015 pension freedoms, which ended the requirement to annuitise wealth from defined contribution (DC) schemes. Sure, that affects people approaching retirement – but if anything, it affects younger people even more, because they will hold greater sums in DC than their predecessors,” Cribb says.

He adds that the effects of the cost-of-living crisis on younger people’s financial habits are entirely understandable: “If people are in dire financial straits, and are taking on debt while struggling to feed their children, then temporarily opting out of pensions contributions isn’t a ridiculous thing to do. I wouldn’t criticise them for it – and they shouldn’t be criticised.”

Nonetheless, Cribb acknowledges, the factors weighing against young people’s broader engagement with pensions are inherently challenging: “It is perhaps unsurprising that people don’t tend to increase their contribution rates that much when they get a pay rise, because our system harnesses inertia in AE: people do nothing, and still end up saving.” 

“Plus, it’s hard to compete against expenses with much shorter-term time horizons, such as rent or mortgage bills, or childcare. So, in my view, the government should take a very careful look at whether it’s setting the correct parameters and defaults, in terms of what employers and employees are respectively putting in,” Cribb adds. 

Stephen Watson, Director of Policy and Research at workplace pensions provider Cushon, suggests that younger people may be overconfident about their pensions’ future adequacy. “Our figures show that only 27% of under-24s don’t think they’ll have a big enough pension pot when they retire, compared to 43% across all age bands. 

“At the same time, under-24s are twice as likely as employees of all ages to have reduced their contributions to be able to cope with the cost-of-living crisis. Clearly, the numbers don’t stack up.” Watson believes those “concerning” disparities can only be tackled through education and engagement. “Otherwise, we are facing a potential pensions crisis in the future.”

Tackling inertia

WEALTH at work Director Jonathan Watts-Lay believes that the workplace is the ideal environment to channel financial education. “The workplace is where younger people will be auto-enrolled and, depending on what arrangement staff are under, the employer or pension trustees would have designed the scheme and would be responsible for the contribution and matching rates. 

“Therefore, as they’re offering it, they’re the best ones to communicate it. In the end, pensions are a significant component of the wider benefit offer. So, the sentiment of saying, ‘This is part of your pay package – here’s how we’ll help you understand it,’ is important,” Watts-Lay adds.

 “Tackling pensions inertia and boosting engagement is going to be a collaborative effort,” Watson says. “As an industry, providers need to ensure that pensions are much simpler, by removing jargon, producing more concise and useful annual statements and using a tech-first approach to modernise pensions with the introduction of apps, so people can manage their pensions as easily as their other savings products.”

To assist the employers’ role in that collective endeavour, Cushon recently acquired financial education outlet Better with Money, with the aim of helping organisations to provide staff with workshops so they will have a clearer understanding of their options and how they can keep saving during the cost-of-living crisis. 

Watson believes one currently underutilised solution is salary sacrifice, which enables people who are paying into workplace pension schemes to save hundreds of pounds per year by changing the way their contributions are made, all without impacting take-home pay.

Smoothing volatility

Perhaps inevitably, among younger people, financial innovations are beginning to encroach upon pensions’ territory. For example, a recent poll from mortgage-broker fintech Tembo showed that 16% of people aged between 22 and 24 are planning to invest in non-fungible tokens (NFTs) or cryptocurrencies in the next five years – compared to 14% who intend to invest in an ISA and just 10% who plan to save in a pension.

Broadly speaking, Watts-Lay says, that’s probably not a good idea given the volatility of crypto. That said, diversification is key, he adds. “No one has a crystal ball, and regardless of what pension providers’ marketing materials say, no one knows what’s around the corner. So, we always encourage people to spread their risk. 

“Shares, equity investments and other products and asset classes will all go up and down in value, and some may be more volatile than others – but diversification enables you to effectively smooth that volatility.”

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