Government to reform pension charge cap: how your retirement pot could be affected

The easing of the 0.75% pension charge cap will affect the majority of workers who stick to their employer’s default fund for their retirement savings. We explain how

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Chancellor Kwasi Kwarteng pledged in the mini-Budget to make billions of pounds in people’s workplace pensions available to invest in innovative UK businesses by easing what is known as the pensions charge cap

The pensions charge cap is in place to limit charges for savers in their employer’s ‘default’ pension fund. Most people are in a default fund, where investments are chosen for you and matched to your age profile.

However the cap limits where pension funds invest, such as high risk investments, because they come with high performance fees, but potentially high returns. By easing this cap, pension funds can invest in innovative businesses and riskier assets to help bolster returns for savers. But, this could mean higher charges will be passed on to those in default funds. 

Here’s everything you need to know about the reform of the pensions charge cap.

How much is the pensions charge cap?

Currently, the pension charge cap is 0.75% - but Kwasi’s reform means this could be increased.

This will affect the 90%-plus of workers who stick to their employer’s default fund for their retirement savings.

Speaking in his mini-budget speech, Kwasi said:“I can announce that we will accelerate reforms to the pension charge cap so that it will no longer apply to well-designed performance fees. This will unlock pension fund investment into UK assets and innovative, high growth businesses. It will benefit savers and increase growth.” The plan comes alongside widespread changes to the tax system including a cut in income tax.

The Government has already consulted on increasing the cap to allow higher performance fees so that pension schemes can invest in a broader range of assets, investments such as infrastructure and sustainable projects that are typically higher risk but potentially give a higher return.  

Becky O’Connor, head of savings and pensions at investment platform interactive investor, said: “For some time, the pension charge cap has been labelled as a blocker to private investment by pension funds in big infrastructure projects, because investment managers haven’t been able to deliver them and also keep charges for workplace savers under the 0.75% cap. These big investments are expensive but also have the potential to deliver growth for the economy and also for investors.”

We explain what the easing of the 0.75% pension charge cap means for your workplace pension.

What does increasing the 0.75% charge cap mean for my pension?

By increasing the 0.75% cap, there are several consequences for your workplace pension.

  • It can be argued that the chancellor is looking to your retirement savings to fund UK infrastructure rather than increasing taxes to pay for it. 
  • Pension fund managers will be allowed to divert your pension savings to ‘innovative’ and higher-risk investments. 
  • The cost will be more expensive - the typical workplace pension scheme fees are much lower than the cap, at around 0.4% to 0.5%. 
  • But the hope is for higher returns for your pension and an infrastructure boost for the UK

Helen Morrissey, senior pension and retirement analyst at Hargreaves Lansdown urges for some caution: “While the cap was brought in to ensure people got good value from their pension scheme, cost is not the only way of determining value.  However, the key to success will be striking the balance of delivering opportunities people want to invest in at a sensible cost and the definition of “well-designed performance fees” will be very important.”

O’Connor is concerned people will end up paying more for their pensions for no good reason. “Higher charges can only be justified if the investments that result do benefit pension savers with more growth in the value of their pension pots. It would be good to see more guarantees and reassurances about how the removal of the charge cap will lead to this win-win scenario, before pension savers can celebrate the move.”

What changes can I make to my workplace pension if I’m not happy?

Most workplace pensions should offer cheaper fund options which you can easily switch to. You can speak to either your employer or the pension provider to find out what funds they offer.

O’Connor explains those with bigger pension pots have the most to lose: “The proposed reform might work on schemes where people are unaware of the fee they are paying, but for those that are aware and have a decent-sized pension pot, it would take a lot to tolerate the extra fees unless you knew you were going to get far superior growth - that’s quite a big unknown.”

Katie is staff writer at The Money Edit. She was the former staff writer at The Times and The Sunday Times. Her experience includes writing about personal finance, culture, travel and interviews celebrities.  Her investigative work on financial abuse resulted in a number of mortgage prisoners being set free - and a nomination for the Best Personal Finance Story of the Year in the Headlinemoney awards 2021.