Hidden charges on broken pension schemes
We all know we’re living longer and understand the importance of saving for retirement. But do you know how much your pension is costing you?
As we highlighted in the March 2010 edition, pensions can be pricey – fees can be complicated and when you add them all up and multiply by the number of years you’ve been saving (around 40 years, if you’ve been good and started saving early) they can take a hefty chunk out of your nest egg.
Let’s start with company pension schemes. Changes to public sector pensions have hit the headlines lately, but new research showing that the fees levied on private sector schemes are strangling pension pot growth is equally worrying.
David Craig, a management consultant who has penned several books on pensions, has analysed the fees paid by private sector scheme members. Writing in the Guardian, he claimed that schemes have annual charges of 2 to 3 per cent. However, Craig says most pension funds have only managed growth of around 4 per cent a year over the past 30 years. ‘Most people who save in private sector pensions will see between 50 and 75 per cent of all the growth in their pension savings disappear to pay those who have sold them their pension schemes and those managing their money,’ he argues.
To illustrate his point, Craig gives this startling example: ‘If you had invested £100 in Warren Buffett’s company from the start, you would now have stocks worth £300,000. But if you had invested [in Berkshire Hathaway] through a
British pension fund, you would have just £30,000 because of fees.’
There’s not a huge amount you can do about excessive charges on your company pension. But at the very least, you should ask for a comprehensive breakdown of fees from your HR department, the financial adviser advising your HR team (typical if you work at a small company) or the pension provider itself. Bear in mind that, if it looks expensive (and especially if you have to add on commission to a financial adviser), you want access to investments that aren’t available in the scheme and your employer makes little or no contribution, it could be worth taking out a personal pension or self-invested personal pension instead.
With personal pensions, you have more choice. Stakeholder pensions, introduced in 2001, which are available as a workplace scheme or individual plan, are the only products with capped charges.
The maximum annual charge is 1.5 per cent for the first 10 years and 1 per cent thereafter. Some providers have priced their basic pensions along these lines. For example, Legal & General introduced a cap on pension charges in 2001 to ensure its existing customers would not be disadvantaged compared with stakeholder pension holders. However, it is removing the limit in July next year. See Ruth Investigates on page 18 of the September edition for more on this.
There are no cost controls with regular personal pensions though. The charges can vary widely, as can the range of investments available.
Last year we raised some concerns about the high cost of personal pensions. Now Consumer Focus, part of the Financial Services Authority, has sounded a louder warning. In July it criticised the financial advice that consumers receive on pensions, as well as the ‘complex and opaque’ charges. Its report highlighted the problem of churning, whereby customers are advised to switch to different pension products, often with higher charges or greater risk. Churning means financial advisers get an extra helping of initial commission.
Consumer Focus also warned about the growing popularity of trail (also known as renewal) commission on pensions. It said most consumers get little or no benefit from it, yet the ongoing charges reduce the size of their pension pots. An estimated £200 million is paid in trail commission every year, according to Consumer Focus, but almost three-quarters of those affected aren’t even aware that their adviser is being paid an ongoing fee.
The report is all the more damning coming from an organisation chaired by Christine Farnish, a pensions expert who previously served as chief executive of the National Association of Pension Funds. She blasts: ‘The complexity of costs and charges, despite years of work by the regulator on disclosure, make it all too easy for savings that should be going into a pension pot to be siphoned off in costs and charges. This complexity makes it impossible for consumers to judge price and shop around for a good deal as they would in other markets.’
The FSA estimates that a massive 31 per cent of the value of a pension pot is lost in fees over the lifetime of a pension. Adrian Lowcock, senior investment adviser at Bestinvest, says there is ‘an absolute fortune invested in expensive pension funds’.
Andy Leggett, insight analyst for wealth management at Defaqto, a research company, says: ‘If consumers are not going to take advice, they need to shop around and compare prices, just as they do for other major purchases such as, say, a foreign holiday. They should not expect this to be a small task, just as arranging a holiday isn’t – and their pension will be far more important, albeit less exciting to most.’
It is even harder to pinpoint and compare fees on Sipps. They offer more exotic investments than their personal pension cousins, and with that comes a more exotic assortment of charges.
There are different types of Sipps – ranging from Sipp lite, which typically offers just funds, to a full Sipp, which allows everything from buying your own office to investing in contracts for difference and bonds.
According to a recent survey in Pensions Management magazine, the £400 to £499 range is the most common annual fee levied on Sipps. For initial fees, 29 per cent of providers charge zero while another 29 per cent charge between £200 and £299. This reflects the difference in Sipp products – the lite version typically doesn’t charge an initial fee.
So what can investors do to make sure they’re getting value for money with their pension? First, they can compare their provider to a few leading competitors. They should list all the costs, such as initial charges, transfer charges, annual management charges, transaction charges, VAT and income drawdown charges. ‘To simplify [the picture], focus on what your trading habits are. For example, if you usually invest in individual shares and trade frequently, you are looking for low dealing charges and admin costs,’ says Lowcock.
Leggett says investors should also consider value for money. Don’t pay for a full Sipp if you just need a basic Sipp lite.
For a better idea of how much your pension will be reduced by fees over the years, have a look at www.moneyadviceservice.org.uk/tables. This compares pension products according to the amount of time you will be paying into it (for example, 30 years) and how much you will be contributing each month. The results show that the fees taken out over a 30-year term vary by thousands of pounds depending on which product you plump for. A few hours’ research could save you a huge amount of money over the long term.
Consumer Focus highlights the fact that commission can also erode a pension. However, you can get the trail commission back by setting up a Sipp with Cavendish Online – it’s actually a Fidelity Fundsnetwork Sipp. On top of Fidelity’s charges, Cavendish Online charges a £50 set-up fee and a £10 annual fee, but customers then get their trail commission back.
Bestinvest also launched a Sipp this year that has competitive charges and rebates some of the trail commission.
So is it worth spending money on a financial adviser? Despite the rise of do-it-yourself pensions, financial advice can still be very useful. If you need advice on how to invest in a pension, want to consolidate several pension plans, are a high earner with a large pension or are close to retirement, advice may well be worth the extra cost.
Get value for money with your stocks and shares Isas
Isas are typically thought of as straightforward tax-efficient investment wrappers. But like all financial products, care should be taken with charges. In terms of the underlying fund fees, investors should pay attention to the total expense ratio (rather than the annual management charge) and any performance fees.
With the wrapper fees, there can be extra costs associated with buying shares and investment trusts, and any funds outside of the Isa provider’s preferred range. Also, if the annual Isa fee is a percentage rather than a flat fee, this charge will obviously increase as your Isa grows.
There’s mixed news in terms of how fees have changed over the past year. According to Defaqto, the average initial charge on an Isa has fallen from £52.72 last year to £48.17 today. However, the annual fee has increased, from £40 to £49.72.
It is not always necessary to seek financial advice over an Isa. However, if you have a particularly large portfolio or would like some advice on how to use it for your retirement, or in connection with other investments that you have, paying for professional advice could be money well spent.
Isa charges from five low-cost providers
|Isa Product||Cavendish Online Funds Network Isa||Alliance Trust Savings i.nvest Isa||Hargreaves Lansdown Vantage Isa||ClubFinance Cofunds Isa||BestInvest Select Isa|
|Annual fee (ex VAT)||nil||£25||0.5%*||nil||£50|
|Fund dealing (online)||nil||£12.50||nil||nil||nil|
|Exit fee (ex VAT)||nil||£50||nil||nil||£50|
|Typical annual fund charge rebate||0.5%||0.5%||0.25%||0.37%||0.25%**|
Notes: *Only if you hold an investment that doesn't pay trail commission. **Only on portfolios exceeding £50,000.
Projected value after 20 years assuming 7% annual growth
|Initial investment||Cavendish Online Funds Network Isa||Alliance Trust Savings i.nvest Isa||Hargreaves Lansdown Vantage Isa||ClubFinance Cofunds Isa||BestInvest Select Isa|
Notes: Figures assume money invest in Invesco Perpetual High Income. Commission rebates assumed to reduce annual charges. Source: www.candidmoney.com as at 20 July.