Anyone who says that pensions can be a complex area certainly risks being guilty of understatement. As expert advisers in this field, we are frequently taking on new clients whose decision makers aren’t overly familiar with the arrangements they have in place.
This tends particularly to happen when a company has undergone significant changes in senior management.
It’s hardly surprising that a new CEO or HR director trying to get their feet under the table doesn’t immediately spend every waking hour pouring over the small print details of their new pension scheme and assumes that it operates on broadly similar lines to the one at their previous organisation.
We have therefore come across such high-ranking individuals who aren’t clear whether their scheme operates on an automatic enrolment (or ‘auto-enrolment’) basis or on a ‘contractual enrolment’ basis – or don’t even realise there is a choice between the two.
The huge push around auto-enrolment since it started being introduced in stages in 2012 has ensured that the approach accounts for the lion’s share of today’s company pension schemes.
Nevertheless, some schemes still use contractual enrolment, and there are some important differences between the two that need to be understood.
Whilst every employer is required to have a pension scheme that can be used for auto-enrolment, they can, if they prefer, use contractual enrolment instead.
The main potential advantage of doing so is that it can reduce the administrative burden, because auto-enrolment legislation requires each individual employee to be assessed on a case-by-case by basis to see whether they need to be enrolled into the pension scheme.
With contractual enrolment, on the other hand, the employer simply enrols the entire workforce into the scheme, regardless of whether every employee technically has to be enrolled or not. But it must still be in a ‘qualifying’ scheme for the purposes of auto-enrolment legislation.
The approach also involves a lower obligation to provide employees with information in respect of their pension benefit. Additionally, if employers were already operating a contractual enrolment model, it can obviously be simpler to stick with this than to instigate a major pension scheme overhaul to switch to auto-enrolment.
But, unlike with auto-enrolment, where employers can simply enrol eligible job holders without asking them, those using contractual enrolment have to obtain employees’ permission to add them to the scheme and to deduct their contributions from their salary.
Such consent is normally provided when employees accept the conditions of their employment contract, which contains all the relevant details – hence the term ‘contractual enrolment.’ But they may also be required to complete an application form.
The two alternative formats have further important differences when it comes to scheme leavers. A key feature of auto-enrolment is the ability of members to receive a refund of personal pension contributions if they ‘opt out’ within the first month (they can still opt out later but won’t be entitled to a refund.) But contractual enrolment schemes are subject to different regulations in this respect.
Although contractually enrolled members are entitled to leave, the pension scheme’s own rules will determine if a refund of personal contributions is payable. The employer must then exercise its auto-enrolment duties towards any leavers, who may therefore find themselves being auto-enrolled further down the line.
There are a number of other technicalities that also need to be borne in mind. For example, employers can postpone auto-enrolment dates for up to three months but contractual enrolment doesn’t offer such a postponement. Chase de Vere can, however, talk through such finer details with any employers who may wish to learn more.
It is important to understand that contractual enrolment does not provide a way to bypass the auto-enrolment legislation, and employers that use it must still register with The Pensions Regulator to confirm they’ve complied with that very legislation.
But it can possibly be advantageous to a minority of firms who wish to cut down on administration and maybe also have highly paid workforces who wouldn’t want to opt out of auto-enrolment if they had the choice.
Content correct at the time of writing and is intended for general information only and should not be construed as advice.