PRSAs do little to boost pension cover

In three years when the Government reviews PRSAs it will conclude that they have been a failure, argues Alan Flynn.

Retirement is an extraordinarily expensive hobby and it is getting more and more expensive for both the individual and the State. And while the introduction of PRSAs is a welcome initiative, the Government is letting a golden opportunity to fund our golden years slip through their fingers.

The legislation underpinning them makes PRSAs complicated and restrictive. Additionally, PRSAs fail adequately to consider and involve all parties to the transaction.

As a result PRSAs may fail to meet the primary objective of increasing pension coverage in the Republic from 50 per cent to 70 per cent over three years. If the PRSA initiative does fail, the knock-on effects for the retirement prospects of Irish workers will be very grim.

Exploring the background for a moment, we are all aware that for many years the pensions industry has extolled the virtues of saving now for the future. Also, the younger that you started the better your retirement prospects. Equally, for years many members of the public complained that pensions were too complicated and confusing for those without training.

So PRSAs were a great idea that seemed to provide a panacea for all concerns: low-cost pension products that were easily understandable and everyone could take one out regardless of their employment status. This would mean no barrier to entry and therefore the need for advice from providers in relation to these simple products would be minimal.

That was the theory at any rate. But the practice has been rather different. Essentially the Government made four mistakes in planning and designing PRSAs.

Problem number one is that PRSAs do not replace the existing Personal Pensions Market. They are an additional pension product and most of the product providers, that is big banks and financial institutions, have introduced their PRSA offering by now. So rather than simplifying the personal pension market, the introduction of PRSAs has simply added another layer of complexity to an already complex purchase decision.

Problem number two is that two versions of PRSAs were provided for in legislation, standard and non-standard. This made them appear more complex than they should have been and they are therefore confusing to the public. It is also generally perceived that the non-standard PRSAs have higher charges and pay more commission to the intermediary or financial adviser selling them.

The third mistake is that the legislation does not allow PRSA products to carry additional benefits, that is life assurance or disability protection. Allowing them to do so would have made PRSAs much more like a menu board that the individual customer could pick and choose from in an easy manner. The result would have been a pension product that enabled customers to tailor the pension to their own specific needs while remaining with the group product and still retaining portability.

The fourth and final flaw is the fact that PRSAs fail to meet the needs of the intermediaries which must sell the product. While there has been much debate about levels of commission provided by PRSAs this is not where the problem lies. The problem is the level of advice and hence time required of the intermediary.

In a typical group pension scheme the advice equation is relatively simple, the intermediary advises the employer and decisions are taken at an employer level as to the type of scheme, range of benefits, selection of funds etcetera. The employee simply selects from the menu available without the need for significant advice and input from the intermediary.

In comparison, with a group PRSA scheme the same level of advice needs to be given to the employer. Separately each individual PRSA taken out by employees in the group scheme is viewed as a separate investment instrument under the Investment Intermediaries Act 1995. Therefore the intermediary must give the same level of advice to each PRSA purchaser in the group scheme as it would to someone investing the proceeds of a family inheritance.

In a company with 50 staff that equates to at least 50 separate advice sessions. In a company with 500, it will take 500 sessions. Allowing one hour per session that is a total of 500 hours or more than 13 weeks. And that is before the paper work, travel time, follow up phone calls and general administration on the scheme.

In the group pensions arena the levels of commission payable /normal fees charged would simply not cover an intermediary's time to separately advise all employees.

For these reasons, in three years when the Government reviews PRSAs it will conclude that PRSAs have been a failure. While employers must provide access to at least one standard PRSA for eligible employees by September 15th this year there is no compulsion on employees to take out a PRSA. And as we have seen there is no incentive for intermediaries to aggressively sell the product given the time inputs required of them.

Within a five- to six-year period we will probably see compulsory pension payments possibly along similar lines to the Australian model where employers are obliged to contribute 9 per cent of employees' salary towards a pension product.

The graphic shows an individual retiring on a salary of €50,000 and the effect of contributing 15 per cent of salary starting from ages 25, 30, 35 and 40 assuming a pension requirement of two-thirds of salary including social welfare pension. The graph shows the shortfall that will be experienced. The conclusions are obvious - even compulsory contributions of 3-5 per cent will have the same effect as rearranging the deck chairs on the Titanic.

So what can be done? The remedy is quite easy. We need to simplify the legislation. PRSAs should replace personal pensions. Non-standard PRSAs should be abolished and standard PRSAs should accommodate a wider range of fund choice and include risk benefits.

Where a group PRSA is introduced by an employer, the level of advice required for each member should be significantly reduced compared to an individual for example affecting a PRSA on their own behalf. This would encourage development of an employers group PRSA market which could be the difference between the Pension Board achieving its objective of significantly increasing pensions coverage or not.

From the individual's point of view don't shirk your responsibility of providing yourself with an income when you stop working. Whatever governments or employers do, the effects will be minimal and at the end of the day it is the responsibility of each individual to ensure that their income can support their desired lifestyle when entering retirement.

Alan Flynn is a partner in BBO Simpson Xavier