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UK Pensions Market in Midst of Gale of Creative Destruction

12 July 2017

With more than 10 million of the UK's population currently over 65, a figure forecast to reach 18.6 million by 2050, the pensions market is undergoing profound structural change in a bid to modernise the retirement savings framework and make it both fit for purpose and sustainable. Previously complex and poorly understood, Pillar I provision was consolidated into a single-tier pension of GBP 155.65 (USD 182) per week for full entitlement from 6 April 2016. This has done much to clarify the entitlement, though not all will qualify for the full benefit and repeated increases in pension age in recent years are now linked to increases in life expectancy. . 

UK Houses of Parliament

In the private sector, Pillar II provision is undergoing death and rebirth as the cohort of defined benefit schemes navigate regulatory solvency requirements at a time of low bond yields, volatile financial markets and progressively increasing longevity. The priority of scheme trustees' to de-risk long-term exposures and better manage their assets has seen the emergence of specialist life insurance companies emerge to provide for the need. Few private sector DB schemes remain open to new members and increasingly they are closed to existing members also.

The rebirth of occupational pensions follows the launch of auto-enrolment (AE) into rebranded "workplace" pensions. Launched in 2014, AE has gradually been rolled out across all employers over a three year period completing in April 2017. It has proved a considerable success in reversing dwindling pension cover. Prior to implementation around two-thirds of stage employers offered a pension and a third of their workforce was participating. Post implementation 93% of staged employers offered a pension and two-thirds of their employees were contributing. In total, more than seven million employees have enrolled in a workplace pension as of December 2016 and opt outs are lower than anticipated.

AE has effectively revolutionised the corporate pensions market breaking the near monopoly of the life company pension providers and attracting a range of competitors offering master trust alternatives to traditional trust and contract-based DC. Leading life companies of scale have prospered.

AE is success to a point. Coverage has increased but in comparison with a one-time traditional DB provision, a low cost DC-based pension with a minimum regulatory employer's contribution from 2019 of 3% of qualifying earnings is a substantial erosion in benefit quality. In addition, there is also a sizeable rump of employees falling outside the qualifying criteria, so too the expanding self-employed population, now 15% of the total workforce.

A further uncertainty is the effect of a gradual ramping up of employee contributions on opt out rates, which to date have been significantly below expectations. Minimum employee contributions are scheduled to increase from 1% to 3% from April 2018, then from 3% to 5% from April 2019. These changes may well test the resolve of the lower paid.

Another area of profound reform in the UK has been the annuity market, historically a profitable business line for providers. Pension liberalisation measures announced unexpectedly in 2014 removed all restriction to DC pension funds at retirement. Effective from April 2015 this precipitated a slump in the annuity market, where previously purchase had been mandatory.

Annuity providers have also been impacted by Solvency II, where the risk margin makes writing long-term guarantee business, including annuities "unattractive", reported the ABI to a government review in December 2016. A number of providers have since pulled out of the market including the Prudential, formerly a leading player. Specialists, Just Retirement and Partnership Assurance, were also forced to merge and change business model. Longer term, the UK's decision to leave the European Union ("Brexit") in a referendum held on 23 June 2016 may see amendments to the UK pensions' legislative framework.

For further information please refer to the life insurance market report of the United Kingdom, or contact your Axco Representative.