There’s some consultation on pensions going on at the moment. Like, when isn’t there? Well yes, I know, but I thought I’d write about the stuff going on around Self-Invested Personal Pensions (SIPPs to the initiated) and the painful discussions about just what funds built up in something called a ‘Protected Rights Fund’ can and can’t be invested in.
Protected Rights, by the way, are what pension insiders call the pile of money that can get built-up in a pension plan from the rebates that are paid over by the Government when people do something called ‘Contracting-Out’. Basically it is possible to opt-out of part of the state pension scheme (the bit called the State Second Pension (or S2P)) if you’re an employee and have some of your National Insurance contributions paid over to your own pension instead. When you do that it’s called ‘contract-out’. You can think of it as though the bit of your National Insurance Contributions that would have provided your State Second Pension entitlement is handed over to you to invest for the future yourself rather than relying on the Government to magic your pension entitlement out of the future economy as and when you get old enough to claim it. Contracting-out has always been seen as offering people the option of using some of the money they pay out each week in National Insurance to fund their own pension rather than having a pension paid by the Government; kind of control over funded assets versus reliance on political promises, that sort of idea.
Now, there’s no way of saying for sure whether a blind reliance in the financial markets is any more sensible than reliance on political promises, or vice versa. It’s just that as there is a choice as far as the S2P part of an employee’s state pension is concerned some people will be likely to choose one option while others will choose the other. That’s clearly the whole point of there being a choice in the first place. That choice brings a whole load of stuff with it about what option is best for which people; whether the decision is the same for older people as it is for younger people; whether the rebates represent an equitable value for the entitlements foregone; whether once you’ve contracted-out you should at some point contract back in again; or whether you shouldn’t; etc. etc. In fact, giving people advice on this issue is probably one of the most difficult things financial advisers have to deal with these days; as with most pension questions there is no generic answer.
Contracting-out of the state second pension has been something that’s been a feature of our pension system since 1961. [Back in those days the state second pension was called the Graduated Pension and, after a three-year hiatus between 1975 and 1978, it was superseded by the whizzier State Earnings-Related Pension Scheme (called Serps for short) which was itself superseded by the more modern sounding S2P.] Some people who’ve been contracted-out for years and years can have sizeable pots of money built up in ‘Protected Rights’ these days; easily as much as £50,000 or £60,000.
The reason that the National Insurance rebates have to be separately corralled inside the pension fund made up from an employee’s own pension savings is that the link is not entirely broken with the state second pension scheme when someone contracts-out. Oh no; that would be far too easy. Even though many employees have over the years chosen to go it alone with their pensions by contracting-out, the state still has a say in just what type of pension they can use the fund built up from rebates to buy when they retire. For instance, even though men and women have demonstrably different mortality expectations it is not possible to buy an annuity based on gender-specific annuity rates when retiring. You can do, of course, with the funds built up from your own savings, but not with those built up from redirected National Insurance Contributions as a result of having contracted-out. Because different rules therefore apply to different ‘parts’ of a person’s pension fund it is necessary for administrators to keep the monies in separate pots, something that I’m sure you’ll appreciate doesn’t do a whole lot to help keep down the cost of running pensions.
Which brings me back to where I started on this BeeLine. Self Invested Personal Pensions (SIPPs) are different to other personal pensions in that they have a much wider range of investment options for people to take advantage of. This current consultation is all about whether people with SIPPs can have a wider choice of where they can invest their Protected Rights funds too. I think it’s all rather missing the point though. We shouldn’t be talking about even more complicated and expensive ways of investing ring-fenced money; we should really be talking about getting the fossilised remains of past legislation out of our pension system so that all the money in someone’s personal pension can be covered by the same rules and regulations. You never know, if we did that we might one day reach the point where ordinary people could even begin to understand personal pensions. That’d be good wouldn’t it?
3 March 2008
BeeLine - SIPP and Protected Rights - 12 January 2006.
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