One year ago, Chancellor George Osborne set the pensions industry what many would regard as a ‘mission impossible’: to implement a fundamental change to the way people access their pensions in just 12 months.
The Chancellor announced plans in the 2014 Budget to allow investors much greater flexibility in how they withdraw money from their pension pots – the so-called ‘pension freedoms’. The new rules will allow investors who have reached minimum pension age, currently 55, to take cash from their pensions as and when they like, subject to income tax at their marginal rate.
Low rates of income have long since discouraged wealthy investors from tying up their retirement savings in annuities, but the only alternative – income drawdown – has proved complex and limited. So the move to allow investors more flexibility has been widely welcomed as a way to encourage greater interest in pension savings.
In a recent speech at the Association of British Insurers (ABI) Retirement Conference, ABI Director General Huw Evans said: “We want the reforms to succeed and for customers who in many cases have been saving with our providers for 30 years to have a meaningful set of choices when it comes to decisions about their retirement income,” he added. “No ‘ifs’, no ‘buts’, we want these reforms to work.”
Time frame The biggest drawback has been the time frame – the Government has given pension providers just 382 days to implement its reforms. But even the Government is struggling to meet its own deadline.
With just weeks to go until the introduction of pension freedoms on 6 April, investors should be able to obtain free guidance about their retirement options from the Government’s own service, Pension Wise. Although a website is up and running, investors who have no access to the internet or who prefer to talk to a human being are still without help, as the Pension Wise telephone service has yet to launch.
The Government wants pension providers to form a “second line of defence” in providing information to customers. Some providers, including Standard Life, say they are ready for that, but many others are not.
The ABI also points out that because no one knows how Pension Wise guidance sessions will be structured, providers and advisers are in the dark about which issues to cover with customers.
The Financial Conduct Authority’s (FCA’s) rules covering personalised risk warnings that providers must give to customers have been introduced without consultation. Instead, the regulator says it will undertake a review of ‘at-retirement’ rules this summer, and will consult at that time on whether any changes to the risk rules need to be made.
But the Work and Pensions Select Committee has expressed fears that introducing pension freedoms without the necessary information and support in place could result in consumers losing their money. The Chair of the committee, Dame Anne Begg, said: “Savers need to be properly protected from being ripped off in frauds or scams, or suffering financial loss from making the wrong decision about how to use their pension pots. The pensions industry has not always done enough in the past to help savers make the right decisions.”
"In practice, rushing important changes into law leaves loopholes, anomalies and confusion"
Other details still needing to be finalised include the tax rules on annuity payments to beneficiaries and how lump-sum payments by trust-based schemes will be regulated, according to the ABI.
Andrew Cheseldine, Partner at consulting actuaries Lane Clark Peacock, says it would have been reasonable to expect pension providers to consult on and implement the changes in the space of a year if the Department for Work and Pensions, the Treasury and the FCA had published the regulations six months ago, rather than this month. “In practice, as we know from past experience, rushing important changes into law leaves loopholes, anomalies and confusion,” he says.
Most people working in the pensions industry would have been far more comfortable with a two-year time frame, giving them a year to work with the details of the new regulation.
Speeding the changes into place is also likely to result in providers offering a slimmer range of retirement products than the Government intended. Cheseldine says he does not expect many, if any, to offer all the variations – the small pot lump sum (available if the pension pot is worth less than £10,000), flexible access drawdown (FAD) and uncrystallised funds pension lump sum (UFPLS), as well as annuities and pension commencement lump sum (the tax-free cash) – along with comprehensive communication material about why you might choose one option rather than another, and with realistic charging structures, in the first four to six months.
While some providers have concentrated their resources on getting one particular solution into place, this could cause problems for customers. For example, those who have protected lump sums may, in some circumstances, be entitled to more than 25% of their pension pot tax–free. But they could lose the tax-free status on any amount over 25% if their pension is with a provider that can only offer UFPLS drawdown from April 6 and not FAD. The 25% limit is ‘hard-wired’ into the UFPLS regulations, says Cheseldine, but not those of FAD.
What next? Most experts believe that whichever political party is in government after the general election in May, it should leave pensions alone for a couple of years, allowing auto-enrolment and access freedoms to bed in, and concentrate on monitoring the outcomes.
Much more information about pension providers’ new products and charges will emerge in the next few weeks, but Cheseldine praises those he has already seen for keeping their charges low. Standard Life, for example, will charge a flat rate of 1% for pensions that go into drawdown, but is not making a charge for lump-sum withdrawals.
Danny Cox, a chartered financial planner at product intermediary Hargreaves Lansdown, says: “Leave everything alone. Touch nothing. Do nothing. More work needs to be done on pensions, but with so much current disruption for investors, employers and pension providers to deal with already, this is not the moment for further change.”
But this looks unlikely to happen: Labour has already announced plans to introduce a drawdown charge cap, while the Chancellor announced plans in the 2015 Budget to allow people who have already bought annuities to convert their guaranteed income into a cash lump sum.
Osborne also confirmed plans to allow pensioners to sell their annuities. From April next year, the UK government will change the tax rules to allow people who are already receiving income from an annuity to sell that income to a third party, subject to agreement from their annuity provider.
The proceeds of the sale could then be taken directly or drawn down over a number of years, and would be taxed at their marginal rate, in the same way as those taking their pension after April 2015.
The ABI’s Huw Evans says that over the next five years, pension companies are likely to start innovating products. Developments could include annuities that are taken in later life when lower investment risks and more manageable longevity make for a better deal; greater use of income products with potential for growth; and more focus on long-term care costs.
But providing clear and understandable information about existing pension options is even more important than producing new ones. Evans says: “The key challenge in the second phase of the reforms is not whether new products emerge, but how we meet the potentially wide 'advice gap' between what newly empowered customers will need to discuss and what is affordable and on offer to them.”
Pension freedoms in numbers
The number of people with defined contribution pensions retiring each year1 – 320,000
Amount that pensioners could withdraw from their pots in the first four months of pension freedoms2 – £6bn
The number of annuities in payment3 – six million
The age at which you can draw your personal and/or occupational pension4 (with the exception of certain public-sector pensions) – 55, rising to 57 in 2028
Pension contribution limit before flexibly accessing your pot5 – £40,000 per tax year
Pension contribution limit after flexibly accessing your pot6 – £10,000 per tax year
Sources:
1. HM Treasury
2. Chris Noon, Partner at pension consultants Hymans Robertson
3. Steve Webb, Pensions Minister
4. Pensions Advisory Service
5. HM Revenue & Customs
6. Pensions Advisory Service