John Greenwood
£1 today or £1.32 in 30 years time. For those versed in the behavioural psychology concept of hyperbolic discounting, that is the question facing young people pondering whether to access what would have been five eighths of their pension, says Corporate Adviser editor John Greenwood
It is also the question that those who think a Lifetime Isa model could work as a replacement for or alternative to pension auto-enrolment need to answer before the idea is taken any further.
Today’s Queen’s Speech starts the legislative journey of the Lifetime Isa onto the statute book, with the stated aim of ‘encouraging the next generation to get into the habit of regular saving and help them to simultaneously save for a first house and for their retirement, without having to choose one over the other’.
Many in the industry see the Lifetime Isa as a Trojan horse for a full switch to a similar structure for the whole of pension saving.
Centre for Policy Studies fellow Michael Johnson has this week called on the Government to include a Workplace Isa within auto-enrolment legislation to eliminate the risk of the Lifetime Isa impacting the rollout of the policy.
But setting aside for the moment the very real problem of developing a default investment strategy for two such radically different savings targets, I can’t help feeling such levels of access would be counter-productive to the aim of getting people to put money away for their retirement.
Johnson’s idea seems to ignore completely the behavioural tendency of placing a higher value on money today than a greater amount received years into the future – the well-worn in pensions circles concept of hyperbolic discounting.
Under Johnson’s proposal a 30-year old who has been auto-enrolled for say a decade and has employee contributions plus growth of £10,000 could face the choice of drawing £9,500 today, to spend on whatever they want – travel, clearing debt, going out – or get £12,500 in 30 years time, plus investment growth, less inflation. £1 now or £1.32 in 30 years doesn’t sound like enough to overcome short-termism.
In talking about the Lifetime Isa and how it could work in a Pension Isa incarnation we need to untangle the language around the debate, and be more specific about which qualities we are talking about. One person may back the idea of a Pension Isa because of its Taxed, Exempt, Exempt structure – someone else may be talking about early access when they refer to Pension Isa.
I have a lot of time for the work that Johnson has done on pension tax relief is and the EET versus TEE debate. It seems ludicrous that the Government should give billions of pounds of tax relief to pension providers when it knows it is going to take some of it back 30 or 40 years down the line. This is not an efficient use of capital. Similarly, paying the incentive later, in terms of tax on withdrawal, rather than sooner, in terms of upfront on contributions, seems a more efficient way to go about things.
But it is in the area of access that the Lifetime Isa appears to me to be getting ahead of itself.
We have been through the early access debate before. The conclusion was that it was not something the Government felt was worth proceeding with – even for specific reasons such as house deposit, student loans and severe financial hardship. Nobody back then was even talking about the full access to employees’ contributions envisaged by Johnson’s Workplace Isa model.
It feels like we are losing our nerve on auto-enrolment. Opt outs have been lower than expected, not higher. So why take such a radical step to reduce opt-outs before we see any evidence of it happening in a significant way.
Without robust evidence that people would be more likely to save for the long term if they knew they had access to the money, we should be very cautious about giving it to them.