In a policy paper published on Wednesday (25 April) the trade body stated the two main factors to help provide a sustainable income for savers are the age consumers start drawdown and the rate they withdraw their savings.
The paper stated: “We found that a consumer in normal health who enters drawdown at age 65 has a high likelihood of generating a sustainable income if they withdraw 3.5 per cent per annum i.e. equivalent to £3,500 from a £100,000 pot.”
Historically, the pensions industry has been following the "4 per cent rule" - first devised by US adviser William Bengen in 1994 – which is no longer appropriate, according to the institute's modelling.
The appropriate rate to withdraw funds falls to 3 per cent if the individual starts drawdown at 55 – the eligible age to access pension freedoms, the institute stated.
For example, if someone has a £100,000 defined contribution (DC) pension pot and they access it from the age of 55, rather than from 65 (the current state pension age for males), it would reduce their sustainable level of annual income from £3,500 to £3,000 a year.
According to Steven Cameron, pensions director at Aegon, "it is useful to have a professional body like the institute informing the debate on sustainable income levels.
"We agree that as rule of thumb 4 per cent is overly optimistic for everyone.
"However, the actual sustainable income on an individual level depends on age, gender, life expectancy and investments, and therefore we would always recommend that people seek advice before deciding on their drawdown level."
Aegon has previously proposed drawdown rates on a sliding scale of between 1.7 per cent to 3.6 per cent a year, depending on the risk profile and time period.
Richard Parkin, previously head of pensions policy at Fidelity International and now an independent consultant, argued that drawdown is not guaranteed income, and so it should stop being used as such.
He said: "If we insist on taking the same income regardless of market conditions we inevitably have to set a low rate, in this case 3.5 per cent.
"While that gives a high probability of not running out of money it means most people will leave a significant amount of money behind on death.
"Much better to take a higher level of income and adjust as markets develop. If they go down we take less, if they go up we take more.
"This means that we get more from our pots and so enjoy the retirement we saved for."
According to John Taylor, incoming president-elect of the Institute and Faculty of Actuaries, many more consumers are moving towards products that don't offer any income guarantee.
He said: "There is a real concern that these consumers may be at risk of running out of money in retirement and that they do not understand this risk because of a failure to take regulated financial advice."
Figures published by the Financial Conduct Authority (FCA) in its Retirement Outcomes Review interim report in July last year showed the proportion of drawdown bought without advice has increased from 5 per cent before the introduction of pension freedoms to 30 per cent now.
After comparing consumers who either bought just a drawdown product or just an annuity with different strategies that combine both, the Institute and Faculty of Actuaries concluded that a combination of products is beneficial.
For example, consumers aged 65 could benefit from either using drawdown for five to 10 years and then purchasing an annuity, or combining annuitisation and drawdown for five to 10 years and then fully annuitising, the trade body said.
Mr Taylor said: "Consumers in drawdown are managing longevity risk themselves and it is impossible for anyone to judge exactly how long they are going to live and therefore how long they need money to last.
"While those who take an annuity at retirement will have a greater level of certainty, they will also have reduced flexibility over how much of their income they can take.
"Using drawdown followed by an annuity allows flexibility during the earlier stages of retirement and longevity protection at the end."
Mr Parkin agreed.
He said: "Combining dynamic drawdown with guaranteed income from state pensions, annuities or defined benefit means people can get more from their savings while still knowing they can meet their essential expenses."
According to Martin Bamford, a chartered financial planner at Informed Choice, the 4 per cent drawdown withdrawal rate has come under increasingly scrutiny in recent years, with a more realistic rate of 3 per cent or 3.5 per cent probably more relevant based on UK market conditions.
He said: "Each investor is different and it is important to model their lifetime cash flow based on their unique position, including certainty of income from different sources, and the risks they are able to take with their money.
"Securing a certain level of retirement income with the purchase of a guaranteed annuity, despite their relatively low yields compared to historic levels, still makes sense for a lot of retirees."
maria.espadinha@ft.com
