In its documentation, Nest set out three building blocks for a retirement income ‘blueprint’, aimed at its defined contribution members: an income drawdown fund, a cash lump sum fund and a later life protected income fund.
Nest said that at age 65 or when the member needs a retirement income, around 90 per cent of a pot would be invested in an income-generating portfolio, constituting the income drawdown building block.
This investment strategy would have a “very high probability” of paying a steady income for twenty years, which would increase annually to help keep pace with inflation.
In this strategy, the remaining 10 per cent of the fund would be allocated to a fund invested in cash-like money market instruments. As a result, savers would be able to take out lump sums.
The report stated that any arrangement for Nest members should aim to provide a regular sustainable income for retirement. “In addition, it should aim to provide members with the ability to access lump sums without disturbing their regular income stream. It should also be low cost and feel straightforward for the member.”
Alongside this, from age 65 to 75, as well as paying a monthly income, a small allocation would be taken from the pot to go towards securing a later life protected income. Nest’s suggestion is that this should be 1.5-2 per cent of the pot annually.
Nest noted that describing this as later-life protected income captures the essence of what is intended - managing longevity risk - without using unfamiliar jargon. “Crucially, prior to 75, these allocations are still liquid and can be returned to the member’s estate or their nominated beneficiary.”
Later life income allocations would be locked in at age 75, at which point money would become part of a “mortality pool” that will pay an income for life at age 85.
“When a member reaches age 85, the income they receive as they move into the third phase of retirement would be broadly the same as in previous phases,” added the report.
Nest explained that subsequent payments post age 85 would be the same nominal cash amount each month and that any money left over, not been drawn down in phases one and two, would be transferred to the cash lump sum for members to use as they wish or leave to their estate or nominated beneficiary.
However, as all these approaches have a “significant element” of active management in them, the costs associated with the fund management element of this approach are “likely to be higher” than in accumulation.
The report said: “We believe this additional cost is often worth paying given capital protection is crucial in decumulation, where there is less time and no member contributions to make back losses experienced by market downturns.”
Mr Fawcett stated that since the pension freedoms were announced, the challenge to industry has been to help savers achieve a sustainable retirement income without removing freedom and flexibility.
“We believe this is possible but it requires innovation. Many of Nest’s members are the first generation of savers who’ll rely almost entirely on their DC pots and their state pension in retirement; this makes it absolutely critical that we get this right for them.
“We’ve developed an evidence-based blueprint for how to meet members’ needs. We hope this will stimulate the innovation necessary for us and others to deliver what members will need and want.”
The development followed a consultation on the future of retirement, which Nest said showed that for most savers, contributing to a pension is ultimately about having an income when they stop working, but that access to ad-hoc cash lump sums is important.
ruth.gillbe@ft.com
