PensionsDec 23 2014

MM retirement outlook 2015

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In announcing the overhaul in his March Budget speech, chancellor George Osborne initiated a scramble among providers that had apparently been given no warning of the impending changes and which now had barely 12 months to prepare for a new regulatory landscape, the details of which had not yet been finalised.

From a consumers’ point of view, the new freedoms will afford pensions savers greater access to their savings than they have ever enjoyed before. A range of solutions now come into play where previously those retiring had been restricted to annuities at uninspiring rates. Drawdown has been an option for those with significant pots, but in truth most pension pots weremore likely to be eligible for trivial commutation than income drawdown.

AnFT editorial in the immediate wake of Mr Osborne’s announcement likened the move to allow people to ‘own’ their pension to the Thatcher government allowing people the buy their council houses in the 1980s. And, it argued, the change would resonate with a similar demographic.

For all the anticipation, 2015 brings the need for action. So what is the retirement market likely to look like after April?

The immediate response – pronouncing the death of annuities – which sent several providers’ share prices tumbling in the Budget’s immediate aftermath, looks like it could be an over-reaction.

The initial excitement prompted by free access to pensions savings has since been balanced by the realisation that people also want security in their retirement.

The possibility of pension savings running out has been a widely expressed fear. Initially this manifested itself in soundbites about Lamborghinis, but towards the end of 2014, research emerged to support those worries. A Metlife survey was typical in quantifying adviser concern, finding that 77 per cent of intermediaries saw the risk of running out of money was the biggest threat to pension reforms’ success. A separate survey of consumers found 41 per cent were equally worried.

International policy think tank, the OECD also identified the risk that retirees could outlive their savings, “especially those with low wealth”. The group laid the blame for this on “insufficient financial literacy”.

Desire for security

Within the new framework, many will want a guaranteed income,so the key battle for annuities providers might be to remind people that their product can provide that.

Annuities need to overcome a reputational challenge as much as anything. Years of falling rates compounded by increasing longevity and dwindling pot sizes have made annuities seem particularly unappealing.

The poor rates on offer have been exacerbated by consumers’ refusal to embrace the open market option (OMO). For over a decade the government, regulators and trade bodies have made various attempts to encourage the public to shop around at retirement, but each drive has had, at best, limited impact. The most recent, launched by the ABI in 2013 was overshadowed by the Budget announcements before it had a chance to fail.

This failure by consumers to make the most of annuities – and a failure by the industry to encourage them to make the most of annuities – has seen retirees grow even more disillusioned.

The FCA’s recent thematic review of the annuities market supported the idea that the chief problem with the products lay in consumers’ reluctance to shop around. This – along with the threat of funds running out – should be addressed by another key innovation from Mr Osborne’s packed Budget speech: the introduction of a guidance guarantee, a “free and impartial” face-to-face conversation outlining retirees’ options. With just months until its implementation though, there remains uncertainty over how it will be implemented.

There have also been suggestions that any such guidance would be far more valuable if imposed much earlier than the point of retirement, but the initiative will at least inspire discussion and, even if falling short of full advice, could inspire consumers to visit a financial adviser to make greater sense of the array of options and for a more detailed plan.

Multi-faceted retirement

Whatever role there is for annuities is certain to be diminished. And while many may still use them, that will increasingly be to cover the last few years of life rather than an entire retirement. Individuals are likely to look to exploit the new freedoms by embracing a range of other income sources to fund the first section of their retirement.

A raft of new products to exploit the new freedoms is expected and along with these, retirement planning will see vehicles like buy-to-let mortgages, equity release and income-producing funds (including investment trusts) begin to complement traditional annuities and drawdown.

While much of the investment industry is gearing up for a big push, the masses will probably opt for the security of cash investment. Many of these will probably be tempted by the familiarity of the NS&I brand, and its newly unveiled pensioner bonds.

The bonds, also announced in the Budget, are available on a one- or three-year term, paying annual rates of 2.8 per cent and 4 per cent respectively to anyone over the age of 65 investing between £500 and £10,000. These limits apply to each bond so a couple could invest £40,000 between them, spread across both terms.

The rates are considerably better than any bank savings accounts or fixed term bonds currently available; Moneyfacts says the average rates for one- and three-year bonds are 1.46 per cent or 2.05 per cent respectively. The ‘best buy’ rates of 1.9 per cent and 2.51 per cent also fall well short of the NS&I product.

But the pensioner bonds are only available to a limited subscription, and are widely expected to sell out quickly.

While the rates have attracted most of the attention, the products are not without their detractions. The bonds are not Isable, and tax must be paid annually, even though they only pay out at the end of the term.

The lack of regular income is the key flaw according to Patrick Connolly of Chase de Vere, “They fall short in terms of what they were trying to achieve. They should be used for people who were struggling to produce income from their cash savings, and these products don’t pay a regular income.”

Mr Connolly says pensioner bonds need an income element, even if it is at a lower rate than the headline, “People who can afford to put their money aside for three years aren’t the people who are desperately crying out for income.”

Auto-asphyxiation

For all the fuss about the new retirement landscape, the dust is yet to settle from the last great pensions overhaul. Automatic enrolment (AE) continues to be rolled out and, as smaller employers get involved, 2015 represents a crunch year for Nest. The government-backed provider is unique in being unable to turn any potential customers away. Its resulting position as the default provider for large swathes of the market will see it forced to cope with rising levels of administration this year, which will balloon in 2016 and then only get worse until the final compulsory staging date in February 2018.

The AE-inspired ‘pot follows member’ changes, which will ensure anyone changing employer takes their pensions saving with them, are also due. Pensions minister Steve Webb has said he expects the legislation to be in place for October 2016, so this year will almost certainly see the occupational pension space getting the groundwork in place.

Beyond these, a wealth of propositions exist for further revolutions within pensions: pension passports, longevity insurance and pension credit cards are all likely to get varying levels of attention, although whether any become a reality remains to be seen.

Order from chaos

This will be a hugely significant year. And these are just the changes we know about, the general election could signal further upheaval. None of the major parties has outlined anything radical yet but there was little to forewarn what George Osborne had planned for last year’s Budget.

Another hung parliament – and another coalition government – is likely. Increased tax autonomy for Scotland is already threatening to unbalance the playing field for pensions tax relief. If the SNP secures greater influence within that government, there is potential for unprecedented confusion.

Pension professionals would probably welcome a quiet period of stability to allow the new rules to bed in. The one thing we can be certain of is that 2015 is unlikely to provide any such opportunity.