In December 2014, the Organisation for Economic Co-operation and Development (OECD) warned that the new pension freedoms could have some damaging outcomes. This focused principally around people’s ability to cope with the new ‘freedom’ to spend their retirement savings however they like, and as quickly as they want. Would this mean people running out of cash? Would it mean people paying excessive tax on their withdrawals? Would some take a sabbatical and fund this using their pension pots?
Much of the OECD concern originated from the myopic nature of individuals and their financial illiteracy. In the OECD’s words:
‘The overall outcome depends on how successful individuals are in assessing their needs over their remaining life expectancy. In any case, such withdrawals bear risk that retirees outlive their savings, especially those with low wealth.’
So what are the pension freedoms really all about?
Cynically (who me?), I believe the pension freedoms are a government strategy to create liquidity for consumer spending, to help the UK economy grow in the short term. This strategy also, however, passes the inevitable consequences of increased life expectancy to future generations and their governments to resolve. These real reasons were cloaked by the need to provide new, attractive alternatives to the traditional annuity purchase at retirement, allowing voters the ‘freedoms’ they deserved.
It’s really too early to say. Making it attractive for individuals to transfer money out of final salary schemes has led to unprecedented activity in the marketplace. This is primarily driven by the desire for people to access their retirement fund earlier, along with better options for money to be passed to family and friends on death.
For some people, getting flexibility from their retirement savings is a great idea. For others, the certainty of an income for life is such a strong benefit that virtually nothing makes transferring away from a final salary scheme the best option.
One thing is certain; people need help. At best, this means one-to-one advice. As a bare minimum, some sort of guidance. Accidents are already starting to happen, whether it be pension scams (cold calling regarding final salary transfers has now been banned), or simply individuals making unwise decisions as they have no understanding of the long-term consequences.
This is an issue that resonates deeply with me, and part of the answer seems obvious: workplace financial wellbeing programmes. Provide employers with the tools to help educate their employees. I believe this is the only practical and cost effective way to manage this growing problem.
This article was first published with REBA on 25 January 2017.