Are pension freedoms a success or not?
This is a question the pensions industry never tires of discussing. While everyone has an opinion, we are now beginning to slowly build up the evidence needed to truly discuss the issue.
The FCA has been collecting data on retirement income trends – based on six-month periods – since April 2015. This month it published its latest data bulletin looking at the period between 1 October 2017 and 31 March 2018.
At first sight it shows pension freedoms remain as popular as ever. Although the initial ‘dash for cash’ has abated, just over a quarter of a million pensions pots were accessed for the first time – and this is in line with previous figures.
Half of those pots were cashed in fully. It looks like these are the smaller pots, with 87 per cent below £30,000, though it’s also worth noting for three-quarters of pots that were fully encashed there was no adviser involvement.
Also evident is drawdown has become the new normal for medium-sized and bigger pension pots, with double the amount of pots entering into drawdown compared with annuities. Two-thirds of drawdown sales were advised.
What is interesting is the surge in the amount of total inflows into drawdown over the last year. The value of the assets entering drawdown during the second half of 2017/18 was £11.1bn, a 27 per cent increase from the second half of 2016/17.
The FCA, in this bulletin anyway, doesn’t examine the reasons why. But it could be due to more people reaching crystallisation with a larger defined contribution (DC) pot as the amount of DC pensions build up (although I would have expected to see a more gradual increase). Or it could be explained by increased defined benefit transfer activity. Or even another reason completely. We don’t have the evidence to say one way or another.
The FCA seems perturbed by the fact that for 60 per cen of drawdown pots, people are taking their tax-free cash but choosing to defer taking an income. This suggests some people are just using drawdown to get their hands on the cash rather than provide an income during retirement.
But to my mind this can equally be explained by people making good use of the flexibility that drawdown offers. They can get their tax-free cash, but delay taking an income until they need it. They are meshing together retirement and continuing to work, maybe in a part-time capacity. Surely people deferring taking an income is good news?
But maybe the most concerning element of the FCA’s bulletin is the section on withdrawal rates. The high rates of withdrawal for the smaller pension pots are probably not surprising. People are using their pension savings to fund income needs now rather than set up a very small, albeit sustainable, income.
But the higher rates for the medium-sized pots are more surprising.
It’s worth pointing out these figures are a snapshot. We do not know these people's personal circumstances, what other income they have, and the condition of their health.
Having said that, setting up withdrawal rates at over 8 per cent is obviously unsustainable – the pot of money stands a much bigger chance of running out sooner.
People may understand the circumstances and risks of the pot running out but are willing to accept them, believing that by the time the pot runs out they will not need the same level of income from their pension. But others may be taking the income they need today but have not worked through the full implications of what that will mean for the pension income they can expect to receive in 10 or 20 years’ time.
This FCA bulletin doesn’t necessarily mean we can answer the $64m question whether pension freedoms are a success. But it does provide another piece in the jigsaw. It means we are that much closer to understanding how people are using the freedoms, and what that means for them.