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Growing concern over pensions

I have heard that the FSA has fined an IFA for promoting early encashment of pensions. Does this mean that I am betterleaving my pension account intact until a later age rather than take benefits now?

Your pensions are personal pensions and, certainly, in days gone by, it was taken as read that pension funds were best left as late as possible to provide a higher pension. This was because pension funds provided tax-free growth and annuity rates improved with the age of the policyholder. Unfortunately, we have to look at each of these factors and see how they relate to today&#39s conditions.

By taking your pension benefits early – and particularly if you take the maximum tax-free cash – you will in most circumstances receive a lower pension for the remainder of your life than if you leave your pension until a later date. However, the last few years have shown that we cannot rely on our pension fund growing. Many clients who believed their money was safe in with-profits funds are seeing dramatic falls in the maturity values. There are many with-profits pensionholders who would certainly have done better by taking their benefits last year rather than leaving it one year later. We have also had a stealth tax introduced by the Labour Government which means that pension funds are no longer tax-free. This has reduced the potential growth on pension funds. The most critical factor, however, has been ever-declining annuity rates. We have been in the dreadful situation over the past few years where, even if the pension fund grew, the resulting income could be less due to the dramatically increased cost of buying the pension.

The 18-month period to March 2004 clearly highlights this situation. The annuity rate for a 65-year-old pensionholder in March (7.5 per cent) fell to a point lower than the rate for a 60-year-old pensionholder only 18 months previously (7.77 per cent). Anyone who assumes that older age brings with it a higher annuity rate is wrong.

The FSA is right to insist on proper promotion of financial contracts and to ensure that anyone taking benefits early should be made aware of potential losses in future income. However, this does not mean that the opposite is true and that by holding on to your pension fund you will receive a better pension. There are several specific events that we must always look to when considering when to take benefits. Health is always important, as the total amount we receive in pension will be dictated by how long we live. Better annuity rates are available in impaired life situations. It must also be considered that most with-profits pension providers apply a market value reduction on early retirement. However, most with-profits policyholders could easily assume that they are best leaving their pension until normal retirement date when values are available without penalty. Unfortunately, we must also look to the returns offered by with-profits providers over the last year. We might see that the early surrender value with the penalty is actually better than the later penalty-free value but with a far reduced terminal bonus. Guaranteed annuity rates must also be investigated, as many older policies offer guaranteed rates but only at specific times. It is all too easy to take benefits early and miss out on substantially higher guaranteed rates later. On the other hand, with some policies, it is easy to miss guaranteed annuity rates by delaying taking a pension. The regulator is right to draw attention to this complicated area but the one-size-fits-all warning must be taken in the context that there are several situations where taking benefits earlier can result in better benefits, not less.

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