Common questions clients have about decumulation

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Scottish Widows
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Supported by
Scottish Widows
Common questions clients have about decumulation

For workplace pensions, getting the savings part right is relatively straightforward if you stay within a workplace scheme, use your maximum allowable allowance and maximise your contributions permissible under the scheme rules. 

But perhaps one of the more difficult things to consider for the average person is what to do with the money once they reach 55 or they reach the age at which they wish to retire and start taking their pension.

Matthew Connell, director of policy and public affairs for the Personal Finance Society, calls this a "massive issue to decide upon", as there are so many more options to consider.

With pension freedoms now offering so much choice: remain fully invested, opt for full encashment, partial encashment, annuitisation, drawdown or a combination of any of these, it is understandable that clients will need to know how to factor their workplace pension into their retirement plans.

So what sort of questions do advisers get asked frequently when it comes to the end of the accumulation stage and towards the decumulation stage of a workplace pension? 

I see part of our job is working with them (and using cashflow) to model what this looks like practically. Chris Budd

Mr Connell comments that a starting point is for advisers to try to cover the "two most important bases". 

These are: 

  • Have the bedrock of guaranteed day-to-day income to cover essential bills, either from state pensions, payments from a defined benefit pension, annuity payments or a cash reserve.
  • Invest where you have the ability to commit funds for the long-term.

But sometimes clients do not even know what to ask in order to cover these bases. Here are the top questions asked as clients enter decumulation, according to some advisers we questioned.

What are my pension options?

For Chris Daems, director at Cervello Financial Planning, one of the most common questions he gets from new private clients as they approach decumulation is "What are my options?"

"I say new clients, as opposed to existing clients, as typically answering questions like this are part of our onboarding and review process," he explains.

Nathan Long, senior pensions analyst for Hargreaves Lansdown, comments: "What are my options? – This one is often prompted when people approach having been told by their existing provider that they cannot just take the tax-free lump sum."

What am I doing in retirement?

Chris Budd, chairman of Ovation Finance, comments: "First, [I ask clients] what are they actually going to be doing in retirement? Many haven’t thought about it.

"It is important to be pulled, not pushed, for them to have something to look forward to. Many others have made assumptions about their finances, and built their retirement around those assumptions."

Mr Long agrees. "Overall the most common questions tend to focus on how people can use the flexibility of pensions to suit their lifestyle."

This is more important than ever, as demographic changes have blurred the edge between working life and retirement, meaning people are living far longer, in better health.

Mr Long adds: "Elongated working lives, coupled with trends of older people tending to be more inclined to work part-time or self-employed makes flexibility a necessity, not a nice-to-have."

Tax and pensions

Mr Daems also gets asked "what about tax?" by clients.

This is understandable: many people do not necessarily realise pension contributions are tax-free on the way in and taxable on the way out, or the tax treatment that will be imposed on their fund if they wish to drawdown more than the current annual tax allowance each year, or if they wish to commute the entire sum into cash and withdraw it at once.

Added to this are the various rules around how pension pots can be passed onto a beneficiary. 

Under current regulation, if the pension fund holder dies before age 75, a beneficiary can inherit some or all of the fund as a lump sum, or income from drawdown, tax free, up to the value of the lifetime allowance (which has been reduced from £1.25m to £1m).

The government's website has a useful breakdown of the way in which pension death benefits work within a taxed environment. 

Can I afford to do drawdown?

Mr Budd says another issue that crops up with clients is whether to erode capital by doing drawdown, and if so, by how much.

From a client's point of view, he comments: "I engage a financial planner, and I have instructed him that if he does his job properly, the moment I draw my last breath is the moment the last penny leaves my account."

For Mr Budd, that means as a financial planner, the right thing for him to do is to help the client with their decumulation strategy by working out the retirement they can afford, assuming they spend or give away all their money. 

But even if a client does want to go into drawdown, Mr Long says there are many subsidiary questions about this particular path that advisers are often asked.

He cites the following:

  • What is the difference between drawdown and uncrystallised funds pension lump sum (UFPLS)?
  • Can I take the tax-free cash and leave the remainder?
  • Can I just take part of my tax-free cash (TFC) rather than the whole 25 per cent TFC?
  • Where can I invest my drawdown pension?

Is there lifestyling?

Some clients who are approaching their retirement date need to understand whether the lifestyling features of their workplace fund are going to be suitable for a drawdown world.

Neil Adams, head of pension planning for Drewberry Wealth, comments: "When it comes to decumulation, auto-enrolment schemes typically have 'lifestyling' built in.

"This shifts your investment strategy automatically as you get older, to better align with your needs as you get nearer to drawing your pension."

He says while traditional lifestyling was always geared towards individuals buying an annuity, increasingly lifestyling with drawdown in mind is becoming more available.

"Our experience", says Sean McSweeney, corporate advice manager for Chase de Vere, "is that as people approach retirement, their biggest concern is a lack of understanding about how much income they will need and how long they will need it for.

"They see that they have, to them, a significant pension pot but need advice and guidance about how this translates into an income in retirement."

Have I got enough?

"Will I have enough?" - that is a frequent question for Informed Choice's clients, according to Martin Bamford, managing director of Informed Choice. 

"Clients often do not know what 'enough' means for them," says Mr Daems. He adds: "I see part of our job is working with them (and using cashflow) to model what this looks like practically. However there's not an easy answer to that particular question."

Mr Budd adds: "How much is enough?' is the key question. I've been asking that one for 20 years.

"I promote a ‘coaching first, then planning, then advice’ way of financial planning." By this he means that he asks clients to "work out what you want from life, then spend your money on that".

Mr Budd says: "Most advisers spend their time with clients seeking solutions, solving problems. The clients need space to work out what the problems are in the first place, and an adviser/planner trained in coaching skills will be best placed to help them."

Mr Long agrees and says many people also ask: "How do I know how much income I will need?" 

The point is they don't know - nobody can - but it is important there is much better education and information to help people make better retirement decisions.

Mr McSweeney explains: "Too many people are using pension freedoms to make withdrawals or to remain invested in drawdown without taking the appropriate advice, and so without a full understanding of the risks they are taking."

Peter Glancy, head of policy development for Scottish Widows, adds: "We would ask about current incomings in comparison to expenditure. This helps people put their assets into a relevant context, and to have a realistic discussion about how much one can afford to spend each year."

What sort of retirement do you want?

Perhaps the above question is one that an adviser should ask the person seeking help. What does the individual have in mind when it comes to spending what they have accumulated in their workplace pension?

Mr Glancy states: "Many people will want the flexibility to spend different amounts in different years, perhaps taking a little in the early years to supplement part-time working, then a much larger amount for a few years, doing all the things they've always wanted to do, and then perhaps less again in older age, when people tend to be less active."

Mr Bamford says the question of long-term care funding also comes up when people are thinking about what sort of decumulation choices might work for them - again this is a cost that might crop up further into retirement, and should be considered as part of the 'have I got enough?' question.

What's the value of an annuity?

This is another consideration which advisers' clients are bringing to the fore, much more now post-pension freedoms than before. 

Mr Bamford adds one of the questions that keeps cropping up is: "Should I opt for the financial security of an annuity, even if it means accepting a lower income?"

According to Mr Long, three common questions that are asked about annuities are: "Why are annuity rates so low? When will annuity rates improve? What medical conditions improve my rate?"

For him, it all comes down to the way people want to live in retirement, and whether they can afford the sort of security that a fixed income can bring as part of an annuity.

And this is also a question of risk. Mr Glancy suggests: "People need to consider their attitude to risk. An annuity or pension from a final salary scheme can give lots of certainty by passing longevity risk to an insurer, but this comes at the cost of flexibility potential for inheritance.

"Income drawdown products offer lots of flexibility and potential inheritance, but no certainty."

This is why financial advisers are well-placed to help consumers make the most of these "different building blocks", Mr Glancy says.

Mr Long adds: "We see plenty of questions about annuity rates which underpins our belief that there is huge demand for secure income. It's just people will not buy at any price."

Mr McSweeney elaborates: "While annuities undoubtedly have their downsides, at least with this option individuals are not taking investment risk, and know they will have a guaranteed and sustainable income which will last for their lifetime."

simoney.kyriakou@ft.com