How do you feel about your finances as you head towards retirement? Most of us don’t want to think about it, but a little planning ahead and some sensible guidance can make life easier. Here are some of the things ABI policy adviser Matthew Field has been thinking about ahead of the FCA’s consumer investments strategy being published.
People often say that there are only two certainties in life: death and taxes. But for most people a prolonged period of retirement is a third element that we not only want to enjoy but see as an achievable goal – we just have to live long enough. Even people who say they will never stop work as they can’t afford to may find themselves having to do so at some point in later life as their circumstances change. In 2019, prior to the start of the pandemic, 72.3% of people aged 50 to 64 years were in employment, but only 1 in 10 people aged 65 years and over were still working. From last October, redundancy rates among those aged 50 and over rose above the rates for other age groups. While it doesn’t apply to everyone, being made redundant at that age means a higher chance of long-term unemployment with some people finding that they have retired early purely because they can’t find another job. For those people able to plan for a transition to retirement, many will have spent their whole working life saving up for a pension to support them. So, if you have been working for at least 35 qualifying years building up a full state pension entitlement as well as contributing either to a personal pension or to a workplace pension, then you will be in a good position to know how to make the most of your money in retirement, right? Well, no, not so much.
The economists and all too many regulators seem to think that people are economically rational, that if you give us enough information in a clear, fair and not misleading way then we will all make rational choices and maximise our marginal utility. Does this sound like you? What might you do when you reach the point of taking your pension benefits? Will you be the sort of person who just wants to put it into a bank account? The trouble with that is that the only guarantee in most bank accounts is that inflation will gradually and remorselessly eat away at your pension pot’s value. And before you transfer it, will you check if this is going to put you into a higher tax bracket for the year with the resulting transfer of an excitingly large chunk of it into HMRC’s grateful arms? Or will you be more worried about entitlement to safety net benefits, will you be checking if the transfer will put you over the savings limits for most benefits?
How about the tax-free cash? Will you be taking it all upfront so that ‘they’ can’t take it away from you? Or will you take 25% tax-free every time you take a slice of your money? If you avoid the bank account trap and continue to invest your pension, will you just take lump sums whenever you need them and let the tax situation sort itself out later? Or will you take one of the drawdown investment pathways that firms now offer, and, if so, which one? What other choices might you have to make after any future pensions changes? What the right answer might be for you depends on many factors including things like your income, your level of outgoings, your life expectancy and most importantly, what you actually want to get out of life during retirement. Sometimes even the answers to those questions can change as you grow older and your circumstances change. And where can you go for help with all this?
I know it’s a difficult and challenging subject, but we need to talk about pensions.
Back in the day, no-one needed to worry about these things, as if you had a Defined Benefit pension then once you reached retirement age you got paid a percentage of your final salary, uprated annually for the rest of your life. But the change to building up a personal pension pot, or a succession of mini pots, while it gives greater individual freedom and autonomy, also brings some difficult choices with it because it doesn’t automatically convert into a pension income. People today often transition into retirement over a number of years rather than it being a cliff-edge event, but that only postpones making choices. Pension freedoms have expanded the range of choices in later life, but there has been no corresponding initiative to help people to make the right choices that work for them. Too many people are still left to make their own mistakes and then to suffer from them in retirement.
One of the main problems with pensions is not saving enough during a working life, partly because people don’t know how much they should be saving, and partly because the need to service debts and meet current expenditure trumps worrying about the future. But whether you have saved enough or not, making poor choices when retiring, that cannot be reversed, is a major driver of consumer harm.
The Government’s Pension Wise guidance service is a helpful source of information, receives consistently excellent user feedback and it can give you insight into your choices, but it is not designed to tell you which choice is the right one for you. Regulators are consulting on giving people stronger nudges to take up this guidance and while this is helpful and supported by the industry, it is only part of the solution; access to advice or to some form of personalised guidance should also be addressed. People who pay for individual financial advice remain a minority, even though studies suggest that people who do so are more likely to invest in riskier assets which increases their wealth over time, and to have a higher income in retirement. However, if the barrier to taking guidance is inertia, which the stronger nudge may help to overcome, the main barrier to taking financial advice is cost. Investment professionals do not come cheap and insurers are no longer allowed to spread the cost of advice for their policyholders via commissions; instead financial advice is a separate service that has to be separately charged for. So in practice many people are caught between two services which don’t quite meet their needs, as people generally do not want to pay what regulated advice costs, while guidance is non-specific and isn’t designed to tell you what your best option is. So inertia rules, and people still end up with suboptimal retirement outcomes.
Regulators should take a strategic view and work with the industry to enable pension providers to talk customers through their options. At the moment, anything that looks like a personal recommendation is not currently permitted without tripping over the advice boundary. This can stop providers from being able to act in helpful ways. Yet unregulated social media influencers, YouTube videos and media finance columns can carry ‘best buy’ lists and ‘dog funds’ to avoid, while hosting speculation in minibonds and digital currency exchanges which have no safety net for the unwary or liability on the part of the influencers. Sometimes it seems as though the only people not allowed to help pension savers to make better choices are the pension providers who invest our money for our future benefit and know us best as their customers. But with increasing digital sophistication in insurers, the growth of platforms and the coming of pensions dashboards, isn’t it time to revisit these rules?
The Financial Conduct Authority (FCA) has recently published its latest business plan which says that it will publish a Consumer Investments Strategy. One of the FCA’s stated outcomes is to enable consumers to make effective investment decisions. Let’s hope that this addresses the advice gap to deliver the sort of help that people need, rather than relying on giving out product information and expecting people to navigate their own complex choices. If the FCA is serious about delivering for retail investors, the new strategy cannot just deal with issues on a piecemeal basis; it will have to cover both pension and non-pension working age investments, as well as the investments people make as part of their retirement choices. Will the FCA’s new consumer investment strategy deliver on this? It is a big ask, and we will only see the scale of the ambition when it is published later this year.
These are the criteria we will use to assess the Consumer Investment Strategy’s effectiveness:
- What does it say about tackling the advice gap?
- Will there be a path for pension providers to go the extra mile and help their policyholders to navigate the tricky choices about accessing pensions that policymakers have landed them with?
- Will firms be able to talk to their policyholders about their options and guide them towards sensible ones (e.g. appropriate equity exposure) and away from poor ones (including scams and high risk unregulated investments like ).
- What will firms be able to say about savings rates in pensions? One popular rule of thumb states that you should be putting aside half your age in percentage terms each year form when you start your pension. Under that rubric, minimum contribution levels for auto-enrolled pensions of 8% are not going to be enough for a reasonable pension (unless you start when you are sixteen). If you start when you are thirty, it should be 15%. Can firms have these conversations with savers?
There is a risk that the new FCA Strategy will focus on short-term tweaks and maintaining the existing advice/guidance boundary. If the regulators want to deliver good customer outcomes, then better analysis of the barriers, including the regulatory ones, should lead to their being carefully and systematically dismantled. Now that would be bold regulation, but do you know why we need it?
Because we really do need to talk about pensions.