The stakeholder pension - five years on

Stakeholder pensions, launched with great fanfare in April 2001, were supposed to be the answer to the UK's lack of retirement savings. With an annual management charge of just 1% a year when they were first launched, stakeholders were aimed at those making modest contributions and who couldn't afford to see their hard earned cash eroded by high charges.

In April 2005, the Government raised the maximum annual management fee which providers could charge to 1.5% for the first 10 years of a policy, in order to allow for the cost of advice. In practice, around half of stakeholder providers raised their fees. The range of funds on offer was initially modest, but this is no longer the case, with many providers offering scores of funds (Legal & General offers 46), which should be more than sufficient for most ordinary investors.

But stakeholders have been largely ignored by employers because employer contributions are not compulsory. Employers are obliged to offer a stakeholder pension scheme if they have five or more employees and have no other pension arrangements on offer.

Stakeholders have also been shunned by some financial advisers because they pay little, or no, commission so individuals buying one via an independent financial adviser (IFA) should be prepared to pay a fee. Paying such a fee could pay for itself many times over, as charges can vary from as little as 0.4% to the maximum of 1.5%, depending on size and frequency of your contributions, your choice of funds and the level of rebated commission.

Furthermore, by buying through an IFA, you have the protection of the Financial Ombudsman Service if things go wrong and you want to make a complaint. If you buy without advice, you lose this protection.

The level of the annual management charge is important, as even modest charges can mount up over the long term. With an annual charge of just 1% on a £200 per month contribution over 25 years and assuming 7% growth, the charges would amount to £23,000, according to Money Management magazine.

Fund choice also varies across the providers, with AXA, Friends Provident, Legal & General, Scottish Life, Scottish Widows and Standard Life offering access to external fund managers, as well as their own funds.

The third issue which an IFA can help with is in recommending a provider with reasonable administration. Administration standards in the pensions industry tend to range from dire to satisfactory.

How have stakeholder pensions performed?

So how have stakeholders fared over the first five years of their existence? The answer seems to be extremely well. A survey by Money Management (July 2006) shows that many stakeholder pensions have achieved stellar performance, with some funds returning annual growth rates of more than 20% over five years on regular contributions.

Only one fund - Scottish Widows North American fund - showed a negative return of 0.8% on the net contributions invested.

Over both three and five years - for both regular and single contributions - the top performing fund was the NFU Mutual property fund. An investor paying just £20 a month, net of basic rate tax from April 2001 (£1,200 in total) would have seen their fund grow to £3,074 after charges if they had invested in this fund, representing an annual growth rate (AGR) of 39% on the net contributions.

A single contribution of £2,808 (£3,600 gross of 22%c tax) invested in April 2001 would have more than trebled to £8,600 in the NFU Mutual property fund, representing an AGR of 25% on the net contributions.

These figures show returns net of standard rate tax at 22%. Higher rate taxpayers can claim a further 18% of their contributions back from the taxman via their self assessment tax return.

The worst performing sectors for regular contributions were the money market and global fixed interest funds, which produced just 3% and 0.9% average growth respectively on gross contributions over five years.

North America, with profits, UK gilt and UK fixed interest funds also produced lacklustre performance over five years, with average gross AGRs of 4.4%, 5.5%, 4.9% and 4.9% respectively. The star performing sectors over three and five years since 2001 were Japan, Europe (excluding UK), and the Far East (excluding Japan) which produced AGRs of 14.5%, 15.8% and 17.8% respectively.

So unless you require a sophisticated investment vehicle for your retirement savings (such as a Self Invested Personal Pension or Sipp) it is worth taking a look at stakeholder pensions which remain cheaper than personal pensions and are perfectly adequate for most ordinary investors.

However, if you are on a low income, it is worth taking advice as to whether means tested benefits, such as the pension credit and income support, would cancel out the benefits of saving for pension. You may find that it is actually not worth while saving (which is a crazy situation created by the Chancellor's well-meaning but flawed pension credit regime).

If you have debts, you may also be better off applying your hard earned cash to clear these first, as any pension savings cannot be accessed until you are age 50 (age 55 from 2010). But if you don't have debts and are a higher rate taxpayer, saving for a pension is for most such people is a no-brainer because of the 40% tax relief.

(All performance statistics sourced from Money Management, July 2006)

25 July 2006 © Moneyextra.com

back

Moneyextra.com recommends you should consider taking independent financial advice before acting on any article. Please contact us for help with your individual circumstances if any assistance is required.