Ros Altmann: Pension freedom transformed industry

MILLIONS of pension savers will soon benefit from the pensions flexibilities that will start in April 2015. They will, at last, be trusted with their own money, rather than being forced to choose between expensive and inflexible annuities or income drawdown products that may not suit them. A whole new pension product landscape is opening up.

Following the Chancellor’s Budget bombshell, which heralded the end of draconian restrictions on UK pension funds, the Treasury has provided more details of how improved choice and flexibility will work. The ambitious programme of National Retirement Guidance is going ahead and opens the door for new and better products, as well as improving financial literacy nation-wide.

This is a long-overdue reform which has the potential to improve pension outcomes for tomorrow’s retirees. Indeed, the guidance could be the start of a whole new industry, which will ensure people have a better idea of how to assess their retirement options.

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The popularity of the Chancellor’s decision to allow pension freedom has ensured that the new guidance will be in place before the next election and the Treasury is clearly working flat-out to deliver this new programme on time.

These new freedoms should make pensions more popular, ensure more people save for retirement and encourage them to seek expert financial advice to help them decide what is best for them.

Forcing people to buy annuities should have stopped long ago. I believe this will pave the way for a whole range of innovative new products to fit with more flexible, longer lives. Previously, most pension savers who wanted to take money out of their pension fund had no choice but to buy an annuity and pension providers had captive customers coming through their door to purchase these products, so there was little need for innovation and little pressure to offer good value. Annuities have become increasingly expensive as life expectancy has risen and bond yields have fallen.

The main advantage of buying an annuity is the security of knowing that there will be a secure income stream paid out regularly for life. This is an insurance against living “too long”. However, if the annuity has no inflation protection, those who do live for another 25 years or more will find that the real value of their income has been eroded, while those who do not live a long time will not have received good value.

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A 65-year-old will not need to be protected against reaching 66, but may want protection against living to 96. Buying an annuity that only starts from, say, age 85 or 90, should cost much less than a standard lifetime annuity.

The problem with income drawdown is that people do not know how long they will need to draw down for. If the period of managing the pension fund is fixed at 25 years, then the income payouts can be safely managed to match that end date. If the person dies before that, the money can pass on to their loved ones.

Annuities could be designed which offer the option of much higher income, in the event that the person needs later- life care. Care funding is a looming crisis and there is no money set aside to pay for social care, either by individuals or by the state. Therefore, the possibility of using people’s pension savings to pay for care could help address one of the biggest social problems of the coming decades.

Once an annuity has been purchased, there is no money left to pay for care. If the pension fund is retained into later life, the money could be available if required. I would like to see the Government incentivise pension fund retention for care by allowing any withdrawals used to pay for care to be tax-free.

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What happens next? We will have two new Pensions Bills in the Autumn – a Pension Schemes Bill, which will deal with the Guidance Guarantee, public sector pension transfers and pension flexibility (this Bill is already going through Parliament) and a Pension Tax Bill that will increase the flexibility of income drawdown and introduce measures to prevent tax avoidance for those who take money out of their pension funds and keep reinvesting in pensions to receive more tax relief.

The Financial Conduct Authority will meanwhile be consulting on how the Guidance Guarantee should work and the Treasury will be working to finalise the introduction of the guidance in time to start in April 2015. This is a real game-changer and could be the start of a whole new industry.