The patterns in retirement fund accumulation for self-employed individuals over an extended period

By utilizing administrative tax records, we examine the tendencies in personal pension savings for self-employed individuals with prolonged work tenure in the United Kingdom

In the UK, the count of self-employed individuals has shown a rapid increase in recent years. However, their involvement in private pension schemes has substantially declined during the same period, causing anxiety among policymakers regarding the retirement readiness of this group. This document presents an investigation and assessment of personal pension saving, using administrative data that monitors the UK’s self-employed sector between 2005-06 and 2014-15.

Our study concentrates on a specific subgroup of self-employed individuals, specifically the long-term self-employed within the working-age bracket (ranging from 22 to 64 years of age) who have no employment income for a minimum of 5 years. To conduct the analysis, we rely on the Self Assessment tax return database that self-employed workers submit annually to HM Revenue and Customs. Initially, we document the transformations that have occurred in the characteristics of the working-age long-term self-employed over the duration of the study. Subsequently, we concentrate on the tendencies in pension involvement and contribution amounts within this cohort.

Key findings

1. The earnings of the long-term self-employed within the working-age group demonstrated a considerable decline over the 2005-06 to 2014-15 decade. In particular, the median income reduced from £17,850 to £12,640 annually (in 2015-16 prices), indicating a 29% reduction. Following the financial crisis, the distribution of self-employment salaries became less disproportionate because the highest earnings experienced more significant declines compared to the lowest earnings.
2. Typically, self-employed individuals encounter greater instability in their earnings than employees. By utilizing administrative tax data, we can monitor self-employed individuals over a duration and calculate their annual income’s year-to-year volatility. The income volatility of self-employed workers (measured by the coefficient of variation of yearly income) witnessed a slight increase between 2006-07 (where the information is not influenced by the Great Recession) and 2011-12 (where the preceding 5 years encompass the Great Recession and its immediate aftermath), but returned to pre-financial crisis levels by 2014-15.
3. Over the 2005-06 to 2014-15 decade, there was a significant reduction in personal pension engagement among the self-employed. Specifically, within the long-term self-employed working-age group, the involvement rate in private pension schemes dropped from 33% in 2005-06 to a mere 14% in 2014-15. For those who had been self-employed for less than 5 years, the participation rate was even lower, with private pension involvement among all self-employed working-age individuals with no employment income declining from 26% to 11% during this timeframe.
4. The decline in private pension participation rates was observed across various income, age, gender, and industry groups for the long-term working-age self-employed. For instance, the private pension participation rate in the construction industry (the most prevalent sector for self-employment) dropped from 38% to 12% between 2005-06 and 2014-15.
5. The rationale behind the self-employed having lower savings in non-liquid pension assets is often attributed to their lower income and greater income unpredictability. Our analysis indicates that private pension participation is higher among self-employed individuals with higher income (both from self-employment and other sources), less income variability (as measured by the coefficient of variation of yearly income), and those who have a prosperous income year (where the current year’s income exceeds the five-year average). Nonetheless, these effects are not significant in magnitude. For instance, an increase of £1,000 in self-employment earnings is associated with only a 0.5 percentage point rise in pension participation.
6. Our analysis reveals that the changes in the self-employed population’s composition only account for approximately one-third of the decrease in pension participation between 2005-06 and 2014-15, despite incorporating several individual features such as income and income unpredictability measures in the analysis. As a result, the decline in private pension participation among the self-employed can primarily not be clarified by changes in the tax data-observed characteristics of the self-employed population.
7. For the working-age long-term self-employed who were pension savers, their average annual pension contributions rose gradually from £4,390 to £5,810 (in 2015-16 prices), or from 10% to 12% of their overall income, over the study period. However, the median contributions stayed consistent, suggesting that the majority of the increase in contributions happened among the higher end of the contributions distribution. Surprisingly, the evolving composition of the self-employed did not appear to be a driving factor in this trend, as the contribution time trends were almost identical for the subgroup of self-employed individuals who consistently saved into a pension throughout the sample period.