Pensions  

Can annuities make a comeback?

Can annuities make a comeback?

The rise of income drawdown products has been reported widely, but is this product really as popular as it seems?

Research from the Financial Conduct Authority would suggest the main reason consumers use drawdown products is to access their tax-free cash.

Could it be that consumers are using drawdown products as a temporary stop-gap between accessing tax-free cash and making long-term retirement plans? If so, what does this mean for the future of annuities?

Since the implementation of pension freedoms in 2015, drawdown products have displaced annuities as the UK’s most popular retirement income product, outselling annuities by nearly three to one. However, despite the boom in sales, drawdown products might not be as popular with consumers as first appears.

While the benefits of drawdown products over annuities are considered to be their flexibility and potential for higher returns and legacies, many consumers may not have really considered these factors, or indeed retirement planning at all when entering into drawdown.

Accessing tax-free cash

In fact, it transpires that the main reason people choose to purchase drawdown contracts is to access their tax-free cash.

The FCA’s Retirement Outcomes Review shows that for consumers of all wealth brackets, overwhelmingly the most popular reason for moving their pension funds into drawdown products was to access the tax-free lump sum.

Some 56 per cent of customers with pension funds of more than £100,000 stated accessing a tax-free lump sum as a reason for moving to drawdown, while flexibility was a reason given by less than 7 per cent of consumers. 

It seems that the majority of consumers may not be primarily motivated by long-term retirement planning when initially choosing to move their pension pots.

Instead, a drawdown product appears to be the ‘path of least resistance’ when choosing to access their tax-free cash. Effectively, consumers are choosing a product with the main aim of taking as much out of it as possible.

The FCA also asked consumers if they knew how their drawdown product was invested. Almost 30 per cent of people were not sure how their retirement savings were invested, and a further third of people only had a broad idea. 

This further adds to the idea that many consumers may only be thinking about the short term when making decisions relating to their pension funds, focusing on the 25 per cent of their pension fund that they can immediately access and not seriously considering how the remaining 75 per cent should best be used.

In order to counteract the long-term implications of customers making decisions based on accessing a small proportion of their pension pot, the regulator is encouraging the government to consider allowing consumers to access their tax-free cash without transferring all of the pension fund out of their existing accumulating product.