PensionsApr 21 2015

Income challenges in retirement

      pfs-logo
      cisi-logo
      CPD
      Approx.30min
      pfs-logo
      cisi-logo
      CPD
      Approx.30min
      twitter-iconfacebook-iconlinkedin-iconmail-iconprint-icon
      Search supported by
      pfs-logo
      cisi-logo
      CPD
      Approx.30min
      Income challenges in retirement

      With the introduction of new pension freedoms, retirees are fully released from any effective obligation to purchase an annuity. The challenge of how to provide income during retirement has come to the fore.

      Before we consider the various ways income may be generated in retirement, it’s important to remind ourselves that any solution recommended for a client must be suitable to them. That is, their current financial circumstances, attitude to risk and capacities for loss must be taken into account.

      Hence, a client who has a low overall risk tolerance will have fewer choices in their retirement than a client who has the ability to take a higher risk.

      Leading factors

      In the Chancellor’s announcement last year much was made of the belief in giving retirees freedom of choice on how to fund their retirement. In reality, a much larger driver is the very low rates that annuities were providing.

      The obligation to purchase an annuity may have reduced the competitiveness of rates they were being offered, but the real underlying factor has been the very low interest rates as seen globally since the financial crisis of 2008. These low rates persist today, seven years later, and show little probability of increasing in the short-medium term.

      Current annuity rates show that an annuity in the UK for a 65-year old will only provide approximately £5,500 of income per annum for an investment of £100,000. Welcome to the ‘new normal’.

      For retirees who were due to retire in 2008, the combination of falling equity markets and other assets during that period will have reduced their pension pots severely. However, as markets have risen substantially since the crisis, many investors will have seen good growth in their portfolios.

      This combination of large pension pots with low rates has led for many to call for more freedom to invest their pension pots in riskier assets with greater income generating capability, ie a ‘drawdown portfolio’.

      Tax impact

      It’s also worth considering how taxes may impact the income generation solution. The most common choice for invested funds is between generating income using dividends, or from selling fund units and generating capital gains.

      Each of these routes attract their own taxes and the most efficient choice will depend on the individual investor’s financial situation, that is to say what rate of income tax they currently pay.

      PAGE 1 OF 4