Why small pension pots could be costing you

Millions of small pension pots risk being lost or gradually eroded by charges, a new report from the Institute for Fiscal Studies (IFS) has warned.

With many workers changing jobs frequently, the number of deferred pension pots is set to rise, making it harder for savers to track their retirement funds.

Here, we explain why small pots are becoming a problem, who is most at risk, and what you can do to protect your pensions. 

Why small pots are a growing issue

Thanks to auto-enrolment, you’re automatically signed up to a new pension every time you change jobs. But when you leave an employer, your old pension becomes deferred, meaning it no longer receives contributions. However, it is still managed by a provider. 

Over time, this can leave you with multiple small, scattered pots that are difficult to track.

The IFS reports that as of 2023, there were 20m defined contribution pension pots worth less than £10,000, which were no longer being contributed to. More than half of these, 12.1m, were worth less than £1,000.

The IFS says that based on information from five large pension providers, the number of deferred pots worth less than £1,000 rose by nearly two million between 2020 to 2023.

• Find out more: how auto-enrolment works 

Why small pots cost savers more

Small pension pots can be more expensive for savers, with charges eating into their value over time.

For most workplace pensions set up under auto-enrolment, annual management charges are capped at 0.75%, with many schemes charging around 0.5%, or as little as 0.2% to 0.3% in some cases. But if you have a pension that predates auto-enrolment, charges can be much higher.

The IFS found that deferred pensions set up in the 1990s have annual fees averaging over 1.1% of the fund value. 

It says a 50-year-old with a deferred pot of £21,000 could have £2,000 less by the time they reach state pension age at 67 if their annual fee is 1% instead of 0.75%, assuming investment returns of 7.7% per year.

Another issue is that many small pots are left unmanaged in default investment funds, which may not deliver the best returns.

• Find out more: should I combine my pensions?

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Who is most at risk?

The report found women and lower earners are most likely to end up with small pension pots. 

Modelling by the IFS found that over a nine-year period, nearly three-quarters of pension pots built up by the lowest third of earners will be worth less than £5,000, compared to just one in five among the highest earners.

Women are also disproportionately affected. More than half of pension pots held by women will be worth under £5,000, compared to one in three for men. 

This is partly because women are more likely to take career breaks or work part-time hours to manage childcare, meaning they typically contribute less to their pensions over time.

• Find out more: women trail men by £100,000 in retirement savings

What does the IFS recommend?

The IFS suggests tackling the issue by automatically consolidating small deferred pots under £1,000 into a saver’s existing pension unless they opt out. It recommends regularly increasing this threshold to keep pace with inflation and prevent the problem from recurring.

The IFS also suggests that where a saver has several pots with the same provider, these should be combined automatically to cut costs and make pensions easier to manage.

Another proposal is a lifetime provider model, where workers stay with the same pension provider throughout their career rather than building up multiple small pots.

While the government’s pensions dashboards will allow savers to see all their pensions in one place when it eventually launches, the IFS says this alone won’t be enough to fix the problem.

• Find out more: 5 things you need to know about pensions dashboards

4 ways to manage small pension pots 

If you have a few small pensions, here’s what you can do to manage them effectively and make the most of your retirement savings.

1. Track down missing pots

Some pension providers, including AJ Bell, Standard Life, and Aviva, offer free pension tracing services to help you track down old pensions.

You can also use the government's Pension Tracing Service, which searches a database of over 200,000 pension schemes to find contact details for your provider. 

You’ll need the name of an employer or pension provider to use it, but it won’t tell you how much your pension is worth.

• Find out more: how to find old pensions

2. Update your information

Log in to your pension account or check your latest statement to ensure your provider has the correct details for you.

You should also complete a nomination of beneficiary form to confirm who should receive your pension if you die. Defined contribution pensions don’t automatically form part of your estate, so they aren’t covered by your will.

• Find out more: what happens to your pension when you die 

3. Understand the fees

Check the charges you’re paying on your pensions. If the information isn’t available on your statement or online portal, contact your provider directly.

Older pensions may have higher fees, so it’s worth comparing costs to see if switching could save you money.

• Find out more: 5 investment questions to ask about your pension

4. Consider consolidating

You could transfer small pots into one provider, making them easier to manage. This can reduce fees and give you access to better investment options.

However, some pensions charge exit fees, which could wipe out any savings from switching, so check the details before making a decision.

• Find out more: 6 questions to ask before consolidating your pension