PensionsOct 30 2017

Savers should only take pension yield to maintain savings

twitter-iconfacebook-iconlinkedin-iconmail-iconprint-icon
Search supported by
Savers should only take pension yield to maintain savings

Savers drawing as little as 5 per cent from their pension since the turn of the millennium would have just less than half of their retirement savings left, Hargreaves Lansdown has warned.

If this rate is increased to 6 per cent, individuals would run out of money before 2020, while savers that draw 7 per cent have used up all their savings back in 2014.

According to research from Hargreaves Lansdown, individuals should only be taking the income produced by investments – called natural yield – which is a sustainable way of drawing from a pension.

With the introduction of pension freedoms in 2015, savers can opt for drawdown of their pensions and have a myriad of options for investing their retirement savings.

Since the drop in annuity rates, retirees have opted for a ‘capital nibbling’ approach, where they regularly sell their investments to fund their retirement income.

Nathan Long, senior pension analyst at Hargreaves Lansdown, said that “this approach can work in strong stock market conditions, such as those experienced following the introduction of the pension freedoms”.

However, savers “do not want to be a forced seller of investments when the market falls,” he added.

Mr Long argued that the natural yield approach is effective because “whilst dividends can fluctuate, they are far less volatile than share prices as they are driven by company fundamentals as opposed to sentiment”.

From the turn of the millennium, a saver with a £100,000 pot invested in the FTSE All Share would twice have lost over a third of his pension value in a 12-month period.

However, “the level of income received was far more robust materially falling only once from one calendar year to the next,” Mr Long argued.

He said: “With plenty of equity income funds yielding over £4,000 for £100,000 invested, this is an option which could suit many people who do not want to buy secure income.”

Nevertheless, he said some people will not have large enough pension pots to make enough from natural yield to maintain the lifestyle they want.

Hargreaves Lansdown’s solution is to buy a level annuity at 65, which will provide an income that is greater than the natural yield.

In the same way that most people can benefit from a diversified portfolio when building up their pension, they can also benefit from diversification when drawing from their pension, the firm said.

Hence, using a pension pot to buy some annuity for an instant boost to income with natural yield from drawdown from the remainder can be an excellent choice.

Hargreaves Lansdown also suggests that savers can use the tax-free lump option to top up income from natural yield, which can be a useful strategy.

After pension freedoms, savers have been seeking to take advantage of the high transfer values of defined benefit (DB) schemes and to move their nest eggs into defined contribution plans.

Figures published by Mercer in April showed that as much as £50bn has been pulled from final salary pension schemes in the last two years.

And according to figures released by HM Revenue & Customs (HMRC) last week, more than £14bn have been unlocked from defined contribution (DC) pensions since pension freedoms came into effect in 2015.

maria.espadinha@ft.com