Both the press and the Financial Conduct Authority have been making a fuss about people accessing their pension pots under age 65, following the Pension Freedom reforms in April 2015. The Telegraph provides a typical article, (and user comments) here, and the FCA’s original press release is here, with the summary here, and the interim report here.
So, what do I as an independent financial adviser think of the policy, its outcomes and the current reactions to it?
As a whole, I would suggest that Pension Freedom is a force for good as it gives people more options with their pension income than before but it does not represent unalloyed good news; the potential and actuality of fraud has soared, the likelihood of making a “bad” decision has increased and the Chancellor has benefitted from a significant extra tax take.
For the poor, those at or below the poverty line, Pension Freedom has given them the opportunity to receive a cash lump sum to pay off debt now rather than a pitiful few Pounds a month for life, (which for the poor is generally shorter than most). As they will be eligible for benefits, the benefits will no longer be reduced for the annuity income they would have otherwise received, so this will have been generally advantageous to them, but not necessarily for the public purse.
For the “Just about coping”, it gives them choices that are probably too complicated to make the best of, but if they followed their instincts of paying off debt first, then fixing the house, then buying their last car, is probably just about good enough. The problem with this, is the FCA’s research suggests they are withdrawing pension money to stick it under the mattress, which is crazy for reasons I shall go into later.
For the middling affluent, it could be very beneficial or absolutely disastrous, depending on the choices made. With between £70,000 - £200,000, they become a significant fraud target, whereas with good decisions, they could be set for life.
For those used to wealth, Pension Freedoms have given them a number of additional options to push money down the generations to benefit their family for years to come. Not having to use an annuity means it is easier to pass money down the generations, although there will be a substantial tax bill to pay, if you die after 75 years old.
As the FCA note, it is still early days, but the FCA research and anecdotal evidence suggest that all is not well with pension income in later life. As a bold generalisation by an IFA with an axe to grind, the public are very bad at picking suitable long term investments, making provisions for an extended lifespan, making allowance for inflation and picking a suitable investment product for their needs.
According to the FCA, over half of fully withdrawn pension pots, were put into other savings and investments. As all of these products will have a less favourable tax treatment than pensions and potentially will have incurred a tax charge to get them there, this suggests that logic is not one of the driving forces. FCA research suggests that a general distrust of pensions is key to the decision making, driven by negative press, rather than personal experience.
I see a number of people, who before advice, are heavily invested in cash, considering it to be a long term investment. Cash is a depreciating asset, as inflation will rob it of buying power over time. At the moment, inflation is around 2.6 - 2.9%, and deposit rates are struggling to be much more than 1%.
I also see a number of people who are spending more than a sustainable amount from their pension pot in drawdown. Given average luck, a 55-year-old retiree could expect to be living on their own resources for 30 years or more, so what are they going to do if they get to 85 year old and have not died?
Retirees are not pensioners anymore, living on a fixed income, doled out for as long as they live; retirees with a drawdown plan are investors, living on their investment returns, so they need to nurture their investment funds and only spend what they really need.
Current Reactions to Pension Freedom
I struggle with most of the articles in the press which paint Pension Freedom as the best thing since council house sales or the biggest danger to public finance since the Cold War. Hyperbole is not needed here; we need a long, cold look at pension outcomes and whether any of the current rules are fit for purpose.
Until the 1940s -1950s, most people died in harness or very soon afterwards; a long retirement is a recent phenomenon and an expensive one at that. As a society, are we willing to support an aging population with a rapidly reducing active workforce? It is ironic that current efforts to reduce immigration will make the impact of an aging population worse rather than better.
Current pension lifetime allowance rules make working past age 55 as a hospital consultant, managing director or other highly paid and pensioned staff a fool’s game, as pension assets over £1Milion are taxed at 55%. Taking early retirement becomes almost inevitable, taking some of the most productive and beneficial of the workforce out of circulation.
Politicians have an unfortunate habit of meddling with stuff they do not understand. Pension Freedom has severely affected the annuity market, with providers leaving the market and the FCA starting to worry about competition in the future. Annuities, whatever their faults, are an effective way of managing living longer than expected and guaranteeing income in later life.
I will be interested to see what the FCA conclude in their final report, due in Q2 2018, but I fear it will only represent fiddling with the fringes of the problem.
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