The Daily Mail has mentioned this topic often enough, but today they really get down to facts and figures...
The Treasury must bite the bullet and tell Britons the whole truth about pension fees even though the shocking facts risk 'permanently damaging' our savings culture, advisers say.
This is Money can reveal the inside story on a damning presentation on pension charges, in which consultants showed the Treasury evidence of a £67billion-a-year hit. (1) Advisers from a low cost investment provider laid their facts bare for officials, revealing how hard-hit retirees are sometimes left with less than they paid in once an average 3.2 per cent in fees is siphoned off each year. (2)
The presentation warned the Treasury the truth is so explosive it would put off some savers forever. It said the UK's 'fragile savings culture (3) may be permanently damaged' if all hidden charges were exposed. Their words will have terrified the Treasury, which would be forced to pick up a rapidly ballooning bill from pensioners falling back on state handouts, (4) in turn heaping more pressure on Britain's bloated £127billion deficit.
1) £67 billion a year looks a little on the high side to me, but broadly speaking that ties in with my own calculations and estimates of about £50 billion a year. Their total commissions are broadly equal to the total value of tax breaks for pension saving, which are about £44 billion a year (workings here).
Either way, this is an inevitable result of tax/subsidy arbitrage*. In the absence of tax breaks, people who wanted to save £100 would buy shares for £100. If you know that the tax man will give you (say) £30 back (or pay it into your pension fund) for every £100 gross (or £70 net) which you invest via a pension fund, then as long as the pension fund invests at least £70 in shares and helps itself to no more than £30 in commissions, you are still no worse off for having invested via a pension fund.
Of course the maths is more complicated than this, because your pension income is taxed when it is paid out again, albeit at a lower rate (call it 15%), so the pension fund helps itself to (say) £10 on the way in and another £5 on the way out, leaving the gullible pensions saver no better or worse off than if he'd just saved up out of his net income.
2) Again, that does look very much on the high side. But the total value of investments managed by UK pension funds is about £2,000 billion, according to the ONS, so if total charges are £67 billion, then 3.2% looks about right.
3) Which 'savings culture'? We are a debt culture, that's a vital aspect of Home-Owner-Ism.
4) So what? It's up to the government to decide what level of 'state handouts' to give older people. The best idea is to roll the basic state pension, SERPS, public sector pensions, pension credit, winter fuel, bus passes, free TV licence, the whole lot, into a flat rate Citizen's Pension, fiscally neutral would be about £200 a week let's say.
But let's imagine we only have the £44 billion a year tax breaks to play with. There are about 11 million people in the UK over pension age, so simply giving every pension an extra £20 a week, cash in hand, no questions asked, would only cost a quarter as much as the tax breaks and would do a damn' sight more good. And if that were non-means tested, it would not discourage people from saving up for their old age in the slightest.
Via Taffee at HPC.
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* I covered another example of tax/subsidy arbitrage in my final year project at Uni. In Germany, there were no tax breaks for buying a second hand home but the tax breaks for a new home were worth about 30% of the cost of the new home. At the time, the German association of building societies sent me statistics saying that the average selling price for a second hand home was DM 300,000 and for a new home it was DM 433,000.
This is hardly surprising, is it? A potential landlord was indifferent between paying DM 433,000 for a new home and getting 30% of that back in tax breaks, bringing the net cost down to DM 300,000 or buying a second hand one for DM 300,000 without tax breaks. The irony is that the DM 133,000 didn't even result in higher earnings in the construction sector, because that's a competitive industry, most of it went straight into higher land values, because land is always a (local) monopoly and cannot be competed away.
Hence and why the Germans are so keen on knocking down buildings and building new ones in their place, by doing this, you can trigger the tax breaks all over again!
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1 hour ago
12 comments:
nice to see the fund managers chief spokesperson also insisting "it ain't us - we get nothing - it's them bastard brokers who bring us our business in return for the commissions we pay them that's entirely to blame". Of course it is. Of course you don't. Yes indeed, someone should do something about those commission motivated greedy crooks and liars, and pronto !
The IMA have responded to this (and it's actually mentioned at the bottom of the article). Sounds like the figures are doubtful, to say the least.
In particular:
"One claimed, for example, that charges are costing pension funds £67 billion a year; yet the investment management industry’s total revenues from all clients was in fact £11 billion in 2010."
and
"Another claimed that management fees for pensions are 1.5 per cent a year, as in the retail market, when in fact the average management fee across all business (including pension funds) is just 0.3 per cent."
Now, the 0.3% is going to include a lot of occupational schemes that have very low overheads, but still...
Sounds like the initial report worked out what some expensive arrangements cost in fees, then multiplied it up by the total size of the market.
More details here
Yes, fair enough - the IMA is entitled to protest that, ahem, we don't rip people off to anywhere near that extent, but as a couple of commenters on the MoneyWeek article RA helpfully provided a link to point out :-
(1) Whilst Mr Saunders is admirably performing his duties to his paymasters, the RETAIL investor needs to be educated of the true cost of investing. Whilst he explains the various costs it doesn't mean that they are justified.
Technology over the last 30 years should have reduced fund management costs not increased them.
(2) 0.3%? Really? As trail commission alone is typically 0.5%, that's way beyond hard to believe.
As for active trading beating a more passive approach, I'm afraid that I side with Graham and Bernstein on that one.
The IM industry needs to sharpen their pencils and stop taking such a huge chunk of people's pensions, and as they won't do this willingly, it's going to have to be via legislation.
But what do I care: I started (passively!) managing my own investments nearly a decade ago, and it was the best thing I ever did.
(3) So the average charge is 30 bps is it? Bet IMA had to trawl around, maybe using institutional trackers in the mix to invent this ludicrously low figure.
It is reckoned that the average multi manager fund TER is around 200 bps. Add in another 100-150 bps for the expenses not included in the 'total expense ratio' and that is at least 300 bps, if not 350+. Then put this MM fund in a pension wrapper, adding even more bps. Then look at inflation.
Anyway see the problem here? No, Ok, I'll spell it out. real returns are eaten away by inflation and charges, so that a real rate of return is probably negative. Add in that most active managers don't even beat their peer group index (which has 'survivorship bias') and what you have is a recipe for wealth destruction.
A spoof column in one of the investing magazines joked that it is the job of the financial services industry to convert a client's wealth into the IFAs/fund managers/pension managers wealth. Maybe this is actually not a joke?
(4) Richard, where are these funds with an average charge of 0.3% per annum?
Please, please don't come back and tell us that this is the actual management fee and that the rest of the AMC is made up of other costs because my clients aren't interested.
They want to know how much is being creamed off the top by so called professionals who are constantly failing them but never, it seems, failing themselves.
I'm pretty sure an extortion run State broadcaster has no place in a moral country.
AC1
Whilst Pensions keep being "simplified"* administration charges will not go down.
*Every "simplification" seems to double the complexity and volume of data to store.
AC1
And yet you still rail at houseowners because they invest in their homes and hang on tight. Your post explains exactly why they do it.
RA, yes, I suspect that the £67 bn figure is overcooked, but the simple fact is that total net-of-tax pension contributions = gross pension paid out (inclusive of tax).
Anon 19.21, I tend to agree with you. If we don't know what happens in the sausage factory, but we know what goes in and what comes out, we can guess the rest. I refer you to my answer to RA, whether the TER is 2% or 3% or 4% I do not know, but whatever it is, it is far too high0
AC1, second comment, agreed.
W42, I do not rail at 'houseowners', everything has to belong to somebody. The whole point of Georgism is to make everybody a land owner as of right so that we can concern ourselves with the more pressing business of going out to work for a living and thereby creating wealth. I want there to be MORE landowners, not fewer.
I rail at all rent seekers and privatised tax collectors, be they Home-Owner-Ists or pension fund managers.
Your attitude is typical of the Home-Owner-Ists who say "Ah yes, we may be bad but the pension fund managers are worse" while across the street the pension fund managers are saying "Housing looks like a good investment, can we please have tax breaks to encourage us to invest in housing?"
When you do the sums the final income from either a funded individual pension or from an investment fund (probably wrapped in an ISA) are roughly the same at about 4%. That is 4% after income tax from the pension annuity and 4% from the investment fund from real returns of about 6%. (The balancing 2% is charges or if charges are low, then some of it can go back in to grow the fund and hence the income). And I am assuming in this that the saver will buy well diversified very low cost institutionally priced index funds.
So in other words the 20% ish tax relief on the way in is gobbled up by the insurer.
I worked this out years ago when I started in this business. It didn't make me popular among my peers...
Oh, and you can see it working best in the rates offered on cash isa's when compared with the equivalent lump sum (taxed) savings account.
Thinking more on this, I really do not think the Treasury should 'tell us more' about all this. It's the bloody bureaucrats and the whole sclerotic regulatory system that go a long way to keeping this going. From personal experience I can tell you that regulation has prevented me from innovating as much as I would like to have done and its costs and bureaucracy have strangled the ability of small businesses to move quickly and instigate change. There is a revolving door between insurers, banks, and the Bank of England, FSA etc etc. You only have to look at Tiner's career to see how this works. Hence the regulators, like the Treasury are just as keen to keep all this going. The only way to change is it more freedom, more markets, more responsibility and more information. (in fact it is only the latter I might consider legislating for - total openness - and even then I think it would be better done by private 'regulation' and marketing.
L: "So in other words the 20% ish tax relief on the way in is gobbled up by the insurer."
This must be true, because we know for a fact that the total net of tax contibutions being paid in are roughly equal to the gross pensions being paid out again.
"Which 'savings culture'? We are a debt culture, that's a vital aspect of Home-Owner-Ism."
Yes. People seeing their savings fucked by rampant inflation, fueled by the state to erode the value of private and public debt, will have a bigger impact on the 'savings culture' than some report about investement management fees for pensions.
Rob, the main reason for rampant inflation is to erode mortgage debts, i.e. it is a subsidy for the Home-Owner-Ists.
The fact that the pol's, bankers and corporatists are merrily running up public sector debts is a parallel issue, it's the same bunch of thieves (pol's, bankers, corporatists) behind Home-Owner-Ism as are behind public sector deficits.
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