Non-contributory pensions may be all carrot and no stick

With auto-enrolment around the corner, advisers of corporate clients might be tempted to recommend a non-contributory pension; but beware, because people tend not to value what they do not pay for.

A non-contributory pension scheme means the employer makes contributions even if the employee pays nothing. It may seem an ideal opportunity to attract people into the scheme early. By the time they start contributing, they already have a pot, rather than missing out because they waited.

With auto-enrolment, for those worried that high numbers could opt out, a non-contributory scheme would be more attractive, bringing high membership and becoming a valued benefit. Experience, however, tells a different story.

Vicky Harrison (pictured), business director at Teeside-based WR Financial, which provides advice to staff in the workplace, says non-contributory pensions lead to throwing good money after bad.

Lack of engagement

‘We don’t have 100% take-up for any of our non-contributory schemes, which is baffling,’ says Harrison. ‘Even getting the basic information from them to set it up is impossible. People are reminded three or four times but if they don’t want to fill in the forms there is no point.

‘People do not value what they don’t have to pay for. With matching contributions, people appreciate [the pensions] but, if not, they do not appreciate a 3% to 5% pay rise for doing nothing.’

Harrison says she would not recommend a non-contributory pension to any employer on the basis of strong take-up. ‘We also advise employers, and we say to them that even a minimum 1% contribution will make them think about the benefit.’

Can auto-enrolment turn the problems of non-contributory pensions on their head? Auto-enrolment uses inertia. It is designed around employees not bothering to opt out of the scheme. There is no point in having high take-up, though, if there is still low engagement.

Nigel Aston, business development director at research firm PensionDCisions, warns low engagement leads to poor outcomes at retirement, causing pension funds to be small because they have never invested more than the minimum and received only basic contributions.

Non-contributory pensions could be a honey trap: the workers will remain blissfully unengaged until they retire with a meagre pot they did not pay for and never cared about.