How can pensions be made to work?

Pal

You mean the drawdown pension pot that is emptied years before the pensioner actually dies because they didn't buy a lifetime annuity and have lived too long?

Paul_Herring

Pal wrote:

You mean the drawdown pension pot that is emptied years before the pensioner actually dies because they didn't buy a lifetime annuity and have lived too long?

That'll be the one Though from what I can see, you still have to buy an annuity at 75 regardless

http://www.fool.co.uk/pensions/articles/drawdown.htm

By taking income drawdown when you retire, you can delay the purchase of your annuity until you're 75.
[...]
The main advantage of income drawdown is that you're able to take the income you require (subject to the limits) while ensuring your fund stays invested in assets with more potential for growth, like shares. This introduces some risk, because the shares might go down while you're waiting to get the annuity.
[...]
If you die while you are using the income drawdown method, then some or all of your pension fund can be passed on to a nominated beneficiary such as a spouse.

dunstonh

Income drawdown isnt really an option for a low to medium risk person and cant be done for funds less than 100k. So the comment that it "introduces some risk" understates it a bit. It is high risk. Hence the potential for total loss or rather large gains.

EdInvestor

There's nothing high risk about drawdown as such.

It depends on what it's invested in.That's exactly the same as a pension, as you keep saying dunstonh, don't confuse the wrapper with the investment

I know someone who has his drawdown invested entirely in gilts -that's safer than an annuity.

It's absolute nonsense to say drawdown can't be done with funds under 100k.

BTW if you want to talk about risk, why don't we discuss the risk of inflation on a level annuity income?Or maybe you are all too young to remember the 1970s - inflation was over 20% a year (every year!) for quite a while.

That's very scary oif you are on a fixed income.

But who can afford an index linked annuity? They cost a fortune.[Try working out how much it would cost you to buy an annuity to the value of the state pension some time - you might be surprised.]:)

EdInvestor

Hi Paul

Paul_Herring wrote:

That'll be the one Though from what I can see, you still have to buy an annuity at 75 regardless

The rules are changing next year : annuity compulsion will be ended.Instead you can take an "alternatively secured" income and leave the capital to your dependants within a pension fund.

Up to aged 75 you can leave the money to dependants as a lump sum (subject to 35% tax).

Paul_Herring

Editor wrote:

Try working out how much it would cost you to buy an annuity to the value of the state pension some time - you might be surprised.:)

Let me know where I'm going wrong...

Current state pension £82.05 per week[1]
52*£82.05=£4,266.60 per annum
To pick at random, a single healthy male, aged 65 with a 3% escalation, £100,000 would get you £5,244[2]

(4266.6/5244)x100000 = £81,362 capital.

Considering that currently nearly half of annuities are worth under £15,000[3], and the average annuity case is worth £25,000-£30,000[3] it appears that not many people are getting very good pensions.

[1] http://www.thepensionservice.gov.uk/atoz/atozdetailed/retirement.asp
[2] http://sharingpensions.co.uk/pension_annuity8.htm
[3] http://www.moneymarketing.co.uk/cgi-bin/item.cgi?id=99817&d=pnd&h=pndh&f=pndf

dunstonh

There's nothing high risk about drawdown as such.

It depends on what it's invested in.That's exactly the same as a pension, as you keep saying dunstonh, don't confuse the wrapper with the investment

The individual has to have a high risk profile to do drawdown. Otherwise, its just an upheld complaint waiting to happen.

You can potentially end up with nothing at the end or you can end up with less than a compulsary purchase annuity if you invest in areas which are lower than the required yield. Usually, to achieve the required yield, you need to invest in medium risk funds or higher.

I know someone who has his drawdown invested entirely in gilts -that's safer than an annuity.

He must have had a very low target yield for that to work. Much lower than the average person would expect. Or he did it himself without knowing about the critical yield requirement.

It's absolute nonsense to say drawdown can't be done with funds under 100k.

Ok, a little clarification. The vast majority of providers will not consider drawdown on funds with less than 100k. There are a very small handful that will look at smaller funds but you have an extremely limited number of options there. Hence why you will see plastered all over sites that mention drawdown that 100k is the typical minimum.

But who can afford an index linked annuity? They cost a fortune.[Try working out how much it would cost you to buy an annuity to the value of the state pension some time - you might be surprised.]

The annuity i quoted this morning, as mentioned earlier on another thread, came out at 4.5% initially for an RPI linked annuity. At 3.5% RPI, Break even point to a level would be year 10 and beyond year 20 you would be in profit over a level plan.

4.5 increasing annually doesnt look too bad stacked up against an ISA paying 5% level over the longer term.

EdInvestor

4.5 increasing annually doesnt look too bad stacked up against an ISA paying 5% level over the longer term.

It looks pretty bad to me if you're losing the capital

BTW, we seem to be getting to the point where IFAs can't advise investors to do anything which has any risk at all to it, because they might attract a misselling complaint. This is a pretty useless development IMHO, not that I blame the IFAs.

Might as well DIY (not to mention DYOR)

A note about "most SIPP providers":

In the past SIPPs have been used almost entitrely by well off people who wanted to use their pension fund to buy commercial property.Typically, a doctor or dentist would buy his surgery via this arrangment.These SIPPs thus have what appears to be quite high charges, because they are providing quite complex admin services over expensive assets.

But now things have changed and we have cheap online e-SIPPs.These new SIPPs don't usually offer commercial property purchase but they do offer most other investments -shares, funds - unit trusts and OEICs, investment trusts,gilts and corporate bonds, ETFs etc.etc

They also offer low and transparent flat rate (not usually percentage-based) charges. Some of them charge no annual fee at all.If you use one of these to do income drawdown it becomes cost effective with much smaller funds.

Care is needed in how a drawdown is invested, of course.Don't plan to take more income than your capital earns (usually about 4-5%) for any length of time - though you can take a bigger income with drawdown than with an annuity if you want, which can be useful for emergencies.

And you need to pay attention to it unless it's invested completely in cash or gilts (some people do this!).It's probably advisable that you do have your basical needs covered by something index linked for inflation like the the state pensions/ a company pension, as many people do, just in case.

But it's certainly a system whose time has come IMHO - the UK is the only western country which insists on annuities, everywhere else they have been doing income drawdown for donkey's years.

Milarky

Just to move this discussion along a bit, then.

Do we see [i.e. is there any kind of consensus] that the role of annuities is likely to be significantly amended as a result of the current Turner Commision review, or are annuities too entrenched for the basic priniciples of pension-saving to move in a different direction [e.g. to the 'drawdown' concept]?

What about SIPPs and the expected popularity of property-based penisons when the rules change next year?

More generally, does this move [which arrives from the so-called 'pensions simplifiction' exercise - predating our current examination of the effectiveness or shortcomings of pensions] actually damage the prospects for more coherence? Is it - in short - 'dysfunctional' if it leads a more 'atomised' system rather than one in which 'everyone has a stake'?

[anyone?]

EdInvestor

Hi Milarky,

The basic underlying problem is that half the population (the better off half) is well pensioned up, better than anywhere else in Europe. :)But the other half - ie everyone except the top end of the basic rate taxpayer population, is badly pensioned.

Now this may not matter, if the bottom half - which is probably really just young people mainly - is busy buying a house, saving and investing in ISAs and paying NI for the 2 state pensions.They may achieve a decent pile of assets which will generate a good retirement income from another route.You don't HAVE to do it via a pension - a pension is only a tax wrapper.

But the Government is not happy about this arrangment because they don't want to have to pay out 2 state pensions later: they want the private sector to provide one of them.They want people to contract out of Serps/S2P.Which the private sector refuses to do at a cheap rate.And the Govt doesn't want to pay more. So there's a conflict.

So now the Government is hinting that instead they will make pensions compulsory and end the tax relief unless the industry offers cheap pensions for basic rate taxpayers.This threat is causing the industry to get very twitchy.Particularly about the possibility that the 25% lump sum from maturing pension schemes will be taxed. If this happened, nobody would invest in pensions any more.

On the other issues, annuities have already gone, the rules will be changed next April.Cheap SIPPs can offer the drawdown alternative effectively.This is all welcome, like the rest of the simplification plans :)The only hangover is that contracted out money can't be put into Sipps: the nanny state lives on at the DWP :rolleyes:

Re the property in SIPPS idea: I'm not sure it will fly with many people.
Let's wait and see. Nor am I am not sure about the changes to company pensions, which are not yet clear.

But overall it's time for a change and people recognise that. The 2 underlying problems are the high charges, and most people's lack of knowledege about how to invest. Neither are insurmountable - where there's a will, there's a way.