The Government has now confirmed its intention to move forward with plans to increase consolidation in the DC pension market so that there are “fewer, larger, better well-run schemes” (Unlocking the UK pensions market for growth).

At the same time, the Government estimates that there around 13 million DC pension pots with a value of less than £1,000, which cost an estimated £225 million annually in administration costs. The problem of the proliferation of these small pots, which equate to in aggregate over £4 billion of investments, has arisen since the introduction of automatic enrolment because savers often forget about their pension pots as they transition between employers.  These forgotten pots are also often subject to higher charges and therefore lower value because of the fixed costs in administering them.  And unless something is done about this issue, the problem will continue to grow.

Small pots proposals

To tackle the small pots conundrum, the new Pension Schemes Bill includes a power for the Secretary of State to make regulations so that small “dormant” pension pots held by auto-enrolment schemes are transferred automatically to a small number of authorised consolidator schemes. The consolidator schemes will be DC master trust schemes and FCA-regulated pension schemes which are authorised by the Pensions Regulator.

A pot will be “dormant” and eligible for automatic consolidation if no contributions have been paid into the pension pot during a prescribed 12 month period and the member has taken no steps to confirm or alter how the pot is invested.

The Government intends to consult on regulations in 2027/28. The aim is for consolidators to be selected in 2029, with transfer duties due to come into force in 2030.

Small pots as a future driver of DC consolidation?

The Government’s plans have been largely welcomed by the industry although there are a number of as-yet unanswered questions about how the consolidator model will operate in the interests of members. In addition, the size of the small pots will be crucial in determining what impact small pots legislation will have on DC consolidation. Initially pots of up to £1,000 will be in scope for consolidation and will not “follow the member” as they move jobs, meaning members could still end up with a number of low value, fragmented pension pots (eg multiple pots of £1,250).  So, an important question remains as to whether this really is the “game changer” the Chancellor is hoping for when it comes to consolidation, especially as the DC pensions market has over a trillion pounds in AuM and a £4 billion initiative is a drop in the ocean. However, the Pension Schemes Bill does address this in part in that it proposes to grant the Secretary of State the power to increase (or decrease) this limit in the future.

One might therefore wonder whether the Government will, in time, see its power to increase the small pot size as an alternative route to greater DC consolidation. The £25 billion minimum AuM requirement for default arrangements is currently proposed to apply only to DC group personal pension arrangements and master trusts. However, the small pots consolidation also applies to own-trust single employer DC arrangements, provided they are used for auto-enrolment so this could be a useful additional tool in the Government’s armour when it comes to pursuing its consolidation agenda.

If the Government were to raise the small pot size, it would consolidate more of the DC market into large scale DC arrangements, such as master trusts and DC pension providers (i.e., the “fewer, larger” schemes that the Government is looking to funnel more DC assets into in order to encourage investment in UK productive finance).

At present, the limits on the Government changing the small pot amount set out in the Pensions Scheme Bill are fairly light – before making regulations, the Secretary of State must “consult such persons as the Secretary of State considers appropriate” and “publish details of the proposed amendment, and the Secretary of State’s reasons for making the proposal, and consider any representations made”.

The regulations would be subject to an “affirmative procedure”, meaning the regulations must be laid before and approved by a resolution of each House of Parliament. However, the UK Parliamentary website reports that the last time the House of Commons did not approve an affirmative statutory instrument was in 1978.

Given the stated importance of small pots in the Government’s consolidation agenda, we expect the proposed flexibility for the Government to change the value of pots in scope without the need for further primary legislation is likely to be the subject of particular scrutiny as the Bill passes through the Houses of Parliament.  Whilst we welcome a much-needed focus on solving the small pots conundrum, a sensible balance between initiatives which increase value for members and yet create further autonomy for Government when it comes to setting pension policy in this space has never been more important.