The Budget announcement was monumental for the pensions industry this time around. Frankly the changes made Steve Webb’s initiatives to improve the effectiveness of the annuities market in the latest Thematic Review look like mere tinkering.
Mr Osborne declared that from April 2015 anyone of pension age (over 55 years old) will be able to draw as much of their pension pot as they choose at any time. One quarter remains tax-free and the balance will be taxed as income at the marginal rate (generally 20 per cent) as it taken. The Treasury’s coffers should be filling at least.
The Guardian took a gloomy view of what would happen as a result of this move to liberalise pension decision-making. Based on research into the Australian experience, where annuity purchase is also now voluntary, the message came through loud and clear – we will blow most of our retirement funds within minutes of laying our hands on them.
According to the Challenger Retirement Income Research, Australia, dated April 2012, only 4 per cent purchase an annuity at-retirement in an average year. 32 per cent instead buy a home, pay off a mortgage or make home improvements; while 19 per cent buy a car or pay off a car loan. More positively, 21 per cent kept it invested in a pension scheme.
PwC believes that some 70 per cent of UK pensioners will choose to take the cash and Barclays Equity Research predicted that the £12bn a year market for annuities could be reduced by two-thirds – falling to just £4bn within the next 18 months. Dramatic stuff indeed if all of this comes to pass.
So-called ‘trivial commutation’ limits which allowed smaller pension pots to be cashed in after retirement age, will rise significantly from £2,000 to £10,000 and those who have retirement savings in multiple pension pots will be able to take out a maximum of £30,000 up from £18,000 maximum before. Average pension pot values are well below £30,000 today. As one article in the FT recently pointed out, pensioners with less than £20,000 are particularly heavily exposed to poor annuity values. Now these vulnerable pensioners will have options between taking the cash, going with income drawdown or an annuity purchase (or a mixture of all three).
Income drawdown limits are also being relaxed so that the minimum annual income requirement for flexible drawdown nearly halves from £20,000 to £12,000; while the maximum income a person in capped income drawdown can take will rise from 120 per cent to 150 per cent of GAD. Again the message is clear: let pensioners make these grown-up decisions about how much income they think they can afford to take out of their pension savings.
Simultaneously annual Isa limits are being pushed higher still, rising by £3,480 to £15,000 and the NS&I will be unveiling a new “pensioner bond” (two-year fixed rate bond) for those aged over 65. It has a limit of £10bn worth of savings and comes with an attractive interest rate.
Clearly the move is very negative for the annuity market which has been under attack for some time (and the pensions minister is not finished yet). But what does it mean for pensioners who now have to think much harder about what to do with their retirement savings? It is well known their financial capability decreases as we get older. A recent LV= State of Retirement report puts figures on the level of understanding of at-retirement product options among those very close to or even post retirement age and needless to say it makes worrying reading. At least with an annuity you know exactly what you are getting until you die. In the new post-compulsory annuity world it will be more difficult to assess what income you really have and many will undoubtedly over-spend, leaving themselves short as they get older and more vulnerable.
