They can’t get at (‘access’) them until they’re 55 – or will it be 57 – well who knows, the way the law is drafted at the moment, but that’s another story; anyway, the money is salted away. But they aren’t putting their hand in their pocket to hand over this money; it’s being taken off their pay before they see it. So employees today aren’t consciously saving for retirement. It’s just a pot building up somewhere in the background.
Back in the day, you knew the company pension scheme was going to carry on paying you in proportion to your final salary after you retired, which together with the state pension meant you were assured of a predictable income for the rest of your life.
That connection, that sense of security, has been lost. Before you stop working you have to decide for yourself how you’re going to manage financially. What to do with that pension pot? No problem: we say you can purchase an annuity (eh?), go into drawdown (wossat?), take a partial UFPLS (giving up at this point), or cash out (now you’re talking, I get that).
Many pots are still modest, less than £10,000 (though still a bigger lump sum than many have held in their entire lives); so more often than not it’s taken in cash, maybe a bit splashed out on a treat and the rest safely stashed in a bank account paying 0.05% interest. Except it doesn’t seem like the full amount has been paid. An outrageous amount of tax has been taken off!
Enter a payroll or pensions professional. We can explain what’s happened, and how to get some of that tax back. Why not all of it? Nasty shock for those who didn’t know that pension income is taxable, after a 25% tax-free lump sum.
Let’s face it: state pension aside, the pension we all more or less understood is a thing of the past. The objective hasn’t changed – most people still want an income for life – but getting there is suddenly more difficult. We need to start talking a different language to bridge the gap.
Maybe the first thing to say to someone coming up to retirement is that you can still use that pot to top up your state pension. Tell them they can swap it for a monthly income from an insurance company, like a salary. Just don’t mention ‘annuity’.
What you’re offered might not sound much, but remember you’re probably going to live to your late eighties, so the money has to last. But maybe you have other irons in the fire, and you need more right away. That money will do better if you leave it in the pension pot than it will in a bank account today; but you can take a quarter of it now, tax-free, and dip into the rest now and then as time goes by. We call it ‘income drawdown’.
There is a third way, an ‘in between’ sort of option, where you take – we say ‘crystallise’, but do we need to parrot the law? – part of your pot in cash but don’t touch the rest at all. In most cases, only three-quarters of what you take is taxable. This is what the law calls an ‘Uncrystallised Funds Pension Lump Sum’ or ‘UFPLS for short’, but we don’t need to use that jargon.
Deciding how much you can take from your pot without risking running out of money before you die is always, to use an inappropriate metaphor, the $64,000 question. Experts are on hand, but they don’t all agree, and anyway, financial advice is so expensive, isn’t it?
No, it shouldn’t be: we have to find ways to deal with this problem. As time goes on, average pot size will increase, especially when we decide on a way or ways to combine several small pots built up during different jobs. That task is under way now. What we need to get back to is a way to convert a pot of money into a regular income for life.
This is where collective money purchase arrangements will come in: what we call ‘CDC’. Royal Mail are leading the way, and a few other large employers might follow. For the time being though, multi-employer schemes such as master trusts will have to wait for legislation to allow this.
In the meantime we can start using different language to talk about getting that income in later life. ‘Engagement’ is in danger of becoming an over-used word for getting people involved in consciously saving, but it’s essential. Instead of saying ‘you’ll get tax relief on your contributions’, try ‘you don’t have to pay tax on the money you put into a pension plan, until after you retire.’ More encouraging, no?
And call it a plan: planning sounds better than scheming. Drop that word ‘contribution’ too: this isn’t a whip-round for a colleague’s leaving present. It’s regular saving. And for goodness sake, don’t talk about ‘the default fund’: default means failure!
We could go further still, and jettison ‘pension’, a word which hardly resonates with people thirty or forty years away from retirement. As to what to call it instead, well the Aussies talk about ‘super funds’: what’s not to like about something super?
Ian Neale, Co-Founder, at Aries Insight
