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We need to talk about… the pension freedoms

28 February 2020

For the uninitiated, the 2014 Budget announcement that the government would “legislate to remove all remaining tax restrictions”1 on access to pension pots may not have sounded particularly radical.

From April 2015, members of Defined Contribution schemes would be able access their entire pension pot from age 55 without being heavily penalised. They would still be able to take up to 25% tax-free, with the remainder taxed at the saver’s marginal rate instead of the previous 55%.

For those of us in the long-term savings industry, however, the announcement marked the start of a new era. The initial announcement was just the beginning. The new rules came into force in 2015, followed by a long and ongoing series of investigations, consultations and reviews.

There’s been a rash of likely unintended consequences along the way, including a surge of demand for transfers from Defined Benefit to Defined Contribution pensions, unexpected tax bills and, in some cases, clear signs of people taking their money too quickly and risking destitution later in retirement.

So, as we reach the fifth anniversary of the pension freedoms taking effect, now seems a good time to reflect on their impact.

Withdrawal from annuities

Perhaps the most immediate and lasting effect has been a wholesale shift from annuities to drawdown as the choice of retirement income option.

Prior to 2015, more than 90% of pension savings were used to buy annuities2. By 2018/19, annuities accounted for just 11% of the plans accessed for the first time, while three in 10 were plans that entered drawdown and more than half were plans where all the funds were taken out of the pension, having not previously been accessed3.

That also means, of course, that large numbers of retirees are now potentially in need of advice on retirement, having opted for an ongoing and more complex alternative to the one-off purchase that annuities represent.

Pensions as cash machines

Many are also taking sizeable amounts of cash from their pensions. HMRC data published in January4 showed that withdrawals reached a record £9.4bn in 2019, almost double the amount of three years earlier.

Almost £33bn has been flexibly withdrawn from pensions since the freedoms took effect, with many taking the risk of incurring unexpected and potentially hefty tax bills as a result.

Missing out on the value of advice

This is likely due in part to large numbers of people accessing their pensions without professional support. FCA data from providers show that in 2019 almost half of plans were accessed without advice or guidance. Just 37% of plans were accessed with regulated advice5.

As awareness grows of the various pitfalls around drawdown, and efforts to promote advice and guidance are stepped up, that may change. There is clearly room for improvement though, reinforcing the ongoing opportunity for advisers working in this area.

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Pathways on the way

The next big staging point will come in August 2020, from when providers will have to offer default fund options to non-advised investors, under the regulator’s Investment Pathways.

These will be based on four broad objectives:

  • Option 1: I have no plans to touch my money in the next 5 years;
  • Option 2: I plan to use my money to set up a guaranteed income (annuity) within the next 5 years;
  • Option 3: I plan to start taking my money as a long-term income within the next 5 years;
  • Option 4: I plan to take out all my money within the next 5 years.

The aim is to reduce the risk of people taking excessive risks with their retirement income, with FCA data showing that 40% of withdrawals in 2018/19 were at an annual rate of 8% and over, and nearly three quarters at 4% and over6.

A challenge - and a chance

While the pathways are designed for non-advised clients, their inception will have implications for advisers too. That’s because of a requirement for you to consider pathways when making personal recommendations to clients about investing drawdown funds. In other words, you will need to show your own recommendation is more suitable for the client than the pathway they could have opted for.

There is potential for some clients to opt for pathways over professional advice, but the move may also serve to increase demand for your services. When confronted with the various choices by providers some investors may realise that they need to know more before they can decide. Others may feel the pathways are too simplistic and that they would like to get advice on a more sophisticated investment approach to get the most from their pension.

Markets have also been largely benign since the freedoms took effect, extending the long bull market that began in 2009. When that changes, however, the risks of investing in drawdown will likely become more apparent, as issues such as sequencing risk become more real.

Getting commercial

Whether it’s setting effective investment strategies that can cope with all market conditions, building cashflow plans, managing tax implications, assessing risk and managing drawdown pots over time, you know how to add value for your clients.

Vast numbers of people are reaching retirement over the coming years, many of whom will need a helping hand with their retirement income choices. So five years on, while the freedoms have caused a few headaches, they’ve generated significant opportunities too. You may find the real commercial challenge is in identifying, targeting and developing propositions for those specific client segments you can most profitably serve.

Important information

Please remember the value of your clients investments and any income from them can go down as well as up and your client may get back less than the amount they originally invested. Past performance is not a guide to future performance.


1 George Osborne’s Budget Speech – March 2014

2 FCA - Retirement Outcomes Review Interim Report - July 2017

3 FCA - Retirement income market data 2018/19 - 25 Sept 2019

4 HMRC - Flexible Payments from Pensions January 2020 Official Statistics - Jan 2020

5 FCA – Retirement income market data – 2018/19

6 FCA – Retirement income market data – 2018/19