With less than one month left of this tax year time is running out for ISA and pension investors – or anyone looking to boost their savings and reduce their HMRC bill. Read our Guide to ISAs, Pensions and Tax-efficient investing to make sure you don’t get left behind.
Two thirds of Britons will work past retirement age; 80 years of age is the new norm for handing in your final notice according to insurer Royal London. These figures no longer come as a surprise to those saving into a pension, the demise of gold plated final salary schemes coupled with longer life expectancy means we will need to be earning for longer. The unknown is what retirement will look like once we eventually get there.
It has not yet been a full year since George Osborne’s pension freedoms were introduced last April, allowing every pension saver over the age of 55 access to their pot. When the plans were announced in the March 2014 Budget there were concerns that a Lamborghini culture would emerge; pensioners would splurge their retirement savings on fast cars and holidays rather than sustainable investments to provide a multi-decade income.
Initial figures suggest that there has indeed been a dash for cash among those with smaller pots; you can withdraw 25% of your pension pot tax free and the rest is taxed as income, and many pensioners with savings of less than £30,000 are simply withdrawing the total sum as cash. This makes sense; with a smaller sum the tax hit is less significant, you may be less inclined to pay for expensive financial advice and this cash may be usefully deployed paying off mortgage debt and other borrowings.
But keeping larger sums in cash when interest rates available from banks and building societies are at record low levels is worrying – and a new report from State Street Global Advisors and The People’s Pension suggests that cash is the go-to asset class despite such paltry offers of interest.
“People Want Ownership of their Savings”
Many of the case studies said that they would be withdrawing all of their pension pot and “investing it in cash ISAs”. This decision was driven in part by the pressure to “do something”; some expressed concerns that if they did not act at the beginning of their retirement journey then the access would be taken away, or the pot would dwindle. Cash is the only well-known asset to many pension savers; choosing between cash savings accounts is one of the few active financial decisions many make in a lifetime, so expressing a wish to convert their pension pot to cash is a case of better the devil you know.
Janette Weir of research consultancy Ignition House presented the findings, and explained that many eligible pension savers had misinterpreted the new freedoms – thinking that because they can have access to their savings, they should.
“People want to access their money. The press coverage has been all about withdrawing the cash, and so that is their initial plan,” she said. “Reassuringly, we found that after some investigation, people felt that this may not be the best option. However this realisation required a trigger from Pensions Wise or a financial adviser.”
The State Street Global Advisors and People’s Pension report found that while most pensioners were grateful for the freedoms, choice proved a burden for many. After decades of pension providers taking care of their retirement provision, with little or no input from the scheme member while in the accumulation stage of saving, the individual is then thrown into the deep-end at retirement.
“It’s a very serious matter,” said one respondent. “If I much up at 60, I muck up for the rest of my life, I’ve got to get this absolutely correct and that’s the problem, it’s a minefield.”
In order to discourage snap decisions which could have multi-decade long implications, the report encourages those at retirement to try to not to be influenced by behavioural biases; the bandwagon effect, the tendency to be over-optimistic and – perhaps the most damaging – the present bias, which prioritises immediate gains over long-term benefits.
Alistair Byrne, senior Defined Contribution strategist for State Street, said that there needed to be some simple rules of thumb to help retirees make informed decisions – such as the 4% drawdown rule popular in the US. The 4% rule suggests you can withdraw 4% of your total portfolio balance in year one of retirement, then annually inflation-adjust that sterling amount to determine each subsequent year's portfolio pay-out.
Checklist at Retirement
The State Street and People’s Pension report compiled a list of 10 questions for retirees to checklist before dashing to cash – just because you can access your savings, does not mean you should.
- Do I really need to take any of my pension money now?
- Do I really need to take all 25% of my tax free cash out now, or am I just finding ways to spend it because I can?
- For those reliant on a spouse’s defined benefit pension, what happens to me if they die first?
- If I am going to put my pension money into a cash ISA, am I sure that I will not be better off leaving the money invested?
- Does my provider offer the best product or should I look around for a better deal?
- If I am not buying an annuity, what should I be invested in?
- What ongoing charges are there, and how will this impact me?
- Is property really a low risk investment and have I thought through all the overheads involved – capital gains tax, income tax on rent, tenancy void periods, insurance, letting fees, refurbishment costs and so on?
- Will I really want to downsize when my pension money runs out – I will probably be in my late 70s by then and less open to big lifestyle changes?
- More and more people are living into their 90s, what if I am one of them?
