Dealing with pension paralysis

Two hands playing rock, paper, scissors, lizard, spock.

It is more than two years since the game-changing pensions freedom legislation was introduced in the UK. But many people are still scratching their heads over what this ‘freedom’ actually means and just what to do with their liberated pensions.

Fretful freedom

Long gone are the days when you could afford to put your pension to the back of your mind; when day-to-day pressures took precedence over your long-term plans and your pension was something that you didn't have to put much thought into. Work until your retirement age; buy an annuity and settle down to a lifetime of guaranteed annual income. Easy. You were either a defined benefit (DB) pension member or a defined contribution (DC) member, and that was about as much as you needed to know.

Not any more, though. Pensions have moved firmly centre stage and are the topic of much debate. Through pensions freedom introduced in 2015, the government has given individuals complete autonomy over how and when they access their pension; how they spend or invest it - and it's up to them to make it last. Annuity or income drawdown? Invest wisely or take the money and run? These are questions that now need to be answered. In addition, the reforms have improved death benefits and reduced the restrictions on who can inherit what's left of an individual's pensions savings after they've gone, so people have more control over who gets any legacy. Undoubtedly, these are positive developments, designed to empower pension scheme members. But as we know, freedom often comes at a price. In this case, pension savers are shouldering the burden of choice and responsibility that once lay with an employer.

Annuity or income drawdown? Invest wisely or take the money and run

With so many more retirement options now available, people could find themselves suffering 'analysis paralysis', where decisions are delayed or never made for fear of making a bad choice. With regard to pensions, this anxiety is perfectly understandable. Individuals are now faced with making longterm, often irreversible financial decisions that will determine how comfortable or otherwise their life after work will be.

DB or not DB: that is the question

Arguably, DB pension-scheme members face one of the most difficult choices in the new retirement regime. Stick with the 'gold-plated' benefits and guaranteed annual income of their DB pension or twist, and transfer into a fully-flexible DC pension? The freedom to switch income on or off, increase or decrease it as personal circumstances dictate, combined with the better death benefits and tax efficiency offered by a DC pension, are proving appealing to many DB members.

But it's not just the flexibility that is alluring. Tantalisingly high pension transfer values are also increasing the attractiveness of switching from DB to DC. A confluence of trends, such as DB pension schemes looking to de-risk and offload their liabilities, as well as changes in the investment environment, has led to record-high pension transfer values. Although the values vary between pension providers, they have typically been in the range of 30-40 times the projected annual income of the DB scheme. For some high earners, this could equate to significant and extremely tempting lump sums. But then comes the next hurdle – what to do with that sum.

What matters most?

Of course, the right retirement solution will vary from one person to the next. A good starting point for anyone is to consider the type of retirement they envisaged and how much income will be required to maintain that lifestyle. Also, are there other sources of income or savings available? Is leaving a legacy for loved ones a priority? These are all important questions that now come into play.

The biggest unknown, of course, is how long retirement will last. People are living longer than past generations and retirements of 40 years plus aren't unheard of. Healthcare in later life is another key consideration. How can retirees make sure their pension savings don't run out?

Taking advice is advisable

Because of the complexity and long-term nature of all these pension choices, the law insists that people take advice, and rightly so. The government's 'Pension Wise' advice will go some way to helping individuals; however, it is likely to fall short for people with more sophisticated investment needs. Therefore, professional guidance is more important than ever and can help safeguard any long-held retirement dreams.

An experienced financial adviser will be cognisant of all the things that need to be considered, including technical investment risks that retirees may not have even known about, like 'ruin age' and 'pound-cost ravaging'. Those people wishing to draw an income from their pension will need to find investment solutions that can help sustain their spending power for the rest of their lives, and beyond, if they want to leave a legacy.

The biggest unknown, of course, is how long retirement will last

There really is no substitute for good advice. Pensions freedom means that planning for life after work is much less straightforward than previously and may require guidance every step of the way. Finding an adviser to help take some of the strain could help make for a more pleasant and less stressful retirement journey.

A personal pension is an investment; its value can go up and down and may be worth less than you paid in. Laws and taxes may change in the future. The information here is based on our understanding in September 2017. Your personal circumstances can also have an impact on tax treatment.

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