A fundamental tenet of pension saving is that pension income must be paid for life and should not, under normal circumstances, decrease. The fear is that without such stipulations individuals will become dependent on the state either through squandering their retirement savings or living longer than anticipated and so running out of cash.
This was reinforced by the introduction in April 2011 of flexible drawdown. Under this, if evidence can be provided that the minimum income requirement has been met, which is currently a secure pension income of at least £20,000 a year, then the remaining retirement savings can be withdrawn as one lump sum, subject to income tax, to use as required.
In the July 2010 HM Treasury consultation document ‘Removing the requirement to annuitise by age 75’ it was stated, “This additional flexibility will be available to individuals who can demonstrate that they will not be able to exhaust their pension savings prematurely and subsequently fall back on the state.”
There are some other choice phrases from that document, namely, “The Government wants to foster a new culture of saving in the UK. This means that saving has to become more flexible and attractive in order to encourage people to take greater responsibility for their financial future. Nowhere is this more important than in planning for retirement.”
The document also acknowledged that some people will want more flexibility on when they take their pension and how much it is, saying that the current inflexibility puts some off saving for retirement. It added that some “have very little choice in securing a retirement income and finding a solution that is best for them”.
Fostering a new culture
Although this consultation did lead to the abolition of so called compulsory annuitisation and the introduction of capped and flexible drawdown to give more flexibility, the overriding tenet remains.
Unfortunately, there does not appear to be any evidence to suggest that capped drawdown, with its reduction in maximum income from 120% of GAD under the previous drawdown regime to the 100% GAD applied today, nor the introduction of flexible drawdown, which is only accessible to those who have substantial pension funds, have done anything to foster a new culture of saving via a pension.
Despite the attempt to break the barrier to saving by offering more flexibility, does a barrier remain, by the Government clinging on to the tenet of a total safeguard against falling back on the state? After all, we see press reports of ISAs and property being popular alternative means for saving for retirement; yet they provide no safeguard whatsoever against funds being exhausted, thus risking individuals becoming reliant on the state.
We could end up with the perverse situation whereby the over protective stance of ensuring that pension funds cannot be prematurely exhausted drives individuals towards alternative savings that offer no protection at all.
From a social and economic point of view it is laudable to help prevent reliance on the state, but the over protective stance leads to a presumption that the Government seriously fears selection against it by individuals purposely squandering their savings to deliberately fall back on the state. Where is the evidence to suggest that individuals, having worked hard to accumulate wealth, aspire to become reliant on the state?
The current capped drawdown regime, while offering a fair degree of flexibility, is still a blunt instrument when it comes to providing individuals with a solution that is best for them. Its main failing is that there will always be funds remaining after death with tax penalties for passing these funds on to beneficiaries.
Carrot not stick
Pension fund withdrawal still needs to be controlled to provide an income spread out over an individual’s expected life span. Again there appears to be a presumption that a higher maximum drawdown limit will automatically mean that it is used and the income spent, as opposed to individuals acting prudently and taking a sustainable income to guard against outliving their capital. For many, insuring against outliving their capital, by purchasing of a lifetime annuity, will still be a good option; but let us give individuals the greater responsibility that the Government talks about.
In terms of changing the pension savings culture, it might better be served by removing the ‘stick’ of restrictive regulations and offering the ‘carrot’ to those that have pension funds remaining at death to pass it on to beneficiaries’ pension arrangements in a tax favourable manner. This would also support and encourage future generations in responsible provision for their retirement years.
Robert Graves is head of pensions technical services at Rowanmoor Pensions
