UK: Pensions Update UK: Automatic Enrolment - September 2014

Last Updated: 10 October 2014
Article by Mark Howard, Judith Donnelly and Paul Hodges

In October 2012, the ground-breaking automatic pensions enrolment legislation began to come into effect. Under the legislation, all employers will have to make arrangements for their workers in the UK to be automatically enrolled into a pension scheme. The intention is to increase the level of pension saving in the UK, and it means that, for the first time, employers are required to contribute towards the pension saving of their workers.

The legislation is being phased in over time, with the largest employers being required to comply first. Automatic enrolment will be in force for all employers with more than 50 workers by April 2015 and it is important for employers to start planning – if they have not already done so – as to how to implement the new requirements. Even employers with existing pension schemes may need to amend their schemes to be compliant, and employment documentation and HR processes will need to be reviewed.

All businesses, other than start-ups established during the phasing-in period, will have come within the ambit of the legislation by 1 April 2017.

OVERVIEW OF THE LEGISLATION

Who does automatic enrolment apply to?

All employers are affected by automatic enrolment: unlike under the stakeholder pension regime, there is no exemption for employers with fewer than five employees. Employers will have to automatically enrol "eligible jobholders" into a pension scheme.

Eligible jobholders are jobholders who are between the age of 22 and the state pension age and who earn more than the "earnings trigger" – this is set at the PAYE threshold (GBP 10,000 for 2014/2015) and is reviewed annually by the Secretary of State. Eligible jobholders have to be automatically enrolled into a pension scheme.

Jobholders are workers who:

  • Work or ordinarily work in the United Kingdom
  • Are aged between 16 and 75
  • Have "qualifying earnings" (between GBP 5,772 and GBP 41,865 for 2014/2015).

Jobholders who are under 22 or between state pension age and 75, or who earn below the earnings trigger, do not have to be automatically enrolled. However, these "non-eligible jobholders" do have the right to join a pension scheme and to receive the benefit of employer contributions on the same basis as eligible jobholders.

Workers who earn less than the threshold for qualifying earnings are "entitled workers". They can require their employer to allow them to join a registered pension scheme, but the employer is not required to make any contributions in respect of them.

The distinction between eligible jobholders, non-eligible jobholders and entitled workers can be summarised as:

Earnings (GBP) Age
16 to 22 22 to state pension age State pension age to 75
Under 5,668 Entitled worker
Between 5,668 and 9,440 Non-eligible jobholder
Over 9,440 Non-eligible jobholder Eligible jobholder Non-eligible jobholder

NB these figures are increasing on 6 April 2014 as set out above.

What do employers have to do?

Employers need to automatically enrol eligible jobholders into an appropriate pension scheme. Employers will need to:

  • Assess their workforce to identify whether workers are eligible jobholders, non-eligible jobholders or entitled workers
  • Identify an "automatic enrolment scheme" (or schemes) into which eligible jobholders will be automatically enrolled.

A key part of the legislation is that enrolment must be truly automatic: the jobholder is not required to do anything – not even sign an application form – in order to join the scheme. The employer's duty is to ensure that members are enrolled into the scheme. This means that employers will have to review their HR and payroll processes to ensure that they comply with automatic enrolment.

What are "qualifying earnings"?

"Qualifying earnings" are earnings which fall into a specified band, periodically adjusted by the Secretary of State. The qualifying earnings band currently corresponds with the lower and upper limits for National Insurance contributions (GBP 5,772 - GBP 41,865 for 2014/2015).

The earnings to be taken into account are gross earnings – including bonuses and overtime – as well as statutory sick pay and statutory maternity, paternity and adoption pay.

What type of schemes can be automatic enrolment schemes?

A pension scheme which is established in the UK or the EEA and which satisfies a quality requirement can be designated as an automatic enrolment scheme by an employer. It will be possible to have a different automatic enrolment scheme in relation to different classes of jobholder (subject to discrimination legislation).

The quality requirements are as follows:

For money purchase schemes

  • An occupational or personal pension scheme to which: The employer contributes at least 3 per cent of qualifying earnings; and
  • Total contributions of 8 per cent of qualifying earnings are paid

However, many employers contribute to money purchase schemes based on a percentage of total basic salary – whereas qualifying earnings include bonuses and overtime. To avoid the administrative complexity of having to test contributions for all enrolled employees against the qualifying earnings band, there will be provision allowing employers to self-certify that their scheme meets the quality requirement. This will require confirmation that the scheme satisfies, from the first pound of earnings, at least one of the following three contribution options:

Pensionable pay from GBP 1 of earnings Minimum employer contribution Total contribution
Option 1 Employer definition of "pensionable pay". Must include basic salary 4% 9%
Option 2 Employer definition of "pensionable pay". Must include basic salary

Aggregate pensionable pay is 85% or more of aggregate earnings
3% 8%
Option 3 Total earnings 3% 7%

All of the rates of contribution are subject to the transitional periods (see below).

The same option does not have to be applied to all eligible jobholders. An employer can self-certify even where there is a cap on pensionable pay, provided that those affected will receive at least minimum contributions on their band earnings.

Self-certification certificates will be valid for up to 18 months. This should help employers to align the renewal of certificates with automatic re-enrolment dates (see below).

Employers with money purchase schemes which are mainly administered in the EEA will also be able to self-certify.

For defined benefit schemes

  • Contracted-out final salary schemes. Most final salary schemes will be contracted-out at the moment, but it remains to be seen how the planned abolition of contracting-out in 2016 will affect this criterion
  • Schemes which meet the "test standard" of providing a pension from age 65 (to be increased as state pension age rises) with a rate of pension of at least 1/120th of average qualifying earnings in the last three tax years preceding the end of pensionable service for each year of pensionable service up to a maximum of 40
  • Career average schemes which revalue the average salary benefits at the lesser of inflation and 2.5 per cent, and which are either contracted-out or meet the test standard
  • Cash balance schemes which operate either on the basis of an annual accrual lump sum of 16 per cent of qualifying earnings, or an annual accrual lump sum of 8 per cent of qualifying earnings, but which increases by 3.5 per cent per annum in real terms

When does the duty to automatically enrol apply to an employer?

Automatic enrolment applies to all employers, so to avoid a potentially intolerable burden being placed on NEST (see below), the duty to automatically enrol is being introduced in stages. The staging will depend on the size of an employer's PAYE scheme as at 1 April 2012. The first staging date was 1 October 2012, and this applied to all employers which had a PAYE scheme of 120,000 or more. The staging dates are set out in Table 1.

It is possible for employers to adopt automatic enrolment before their staging date if they have selected a suitable scheme and notified the Pensions Regulator.

How do the transitional periods operate?

Just as the duty to automatically enrol jobholders is being phased in over time, so are the mandatory contributions to be paid by and in respect of jobholders.

For money purchase schemes, there will be two transitional periods in this regard. The first transitional period is running from 1 October 2012 to 30 September 2017. The second transitional period will run from 1 October 2017 to 30 September 2018. The employer and total contributions gradually increase, so the full effect of automatic enrolment will come in from 1 October 2018.

1st transitional period
to 30 September 2017
2nd transitional period
1 October 2017 to 30 September 2018
Pensionable earnings Minimum employer contribution Total contributions Minimum employer contribution Total contributions
Qualifying earnings band 1% 2% 2% 5%
Option 1

(Employer definition)

2% 3% 3% 6%
Option 2

(Employer definition and >85% of total earnings)

1% 2% 2% 5%
Option 3

(Total earnings)

1% 2% 2% 5%

These transitional periods would not work for a defined benefit scheme or hybrid scheme. Instead, a single transitional period applies for such schemes from 1 October 2012 to 30 September 2017. Provided that a jobholder has been eligible to join the scheme from the employer's staging date to the end of the transitional period, the employer's duty becomes one of enrolling the jobholder into the scheme at the end of the transitional period.

Can automatic enrolment be postponed?

An employer can defer automatic enrolment for a jobholder for up to three months from the employer's staging date, the date when the jobholder joins service or the date when the jobholder becomes eligible for automatic enrolment.

This is of benefit to employers as it may mean avoiding having to enrol staff whilst they are still in a probationary period or where there is a high turnover of short-term staff (e.g. in the hotel or construction industries). However, jobholders will have the right to opt in during the deferral period.

The introduction of a deferral option also undermines one of the original principles of automatic enrolment: that workers should not see the impact of pension saving on take-home pay, thereby allowing inertia to mean that workers would continue to save. By allowing a three month postponement, there may be more opt-outs than would otherwise be the case.

To read this Update in full, please click here.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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