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Malcolm McLean: Can pension freedoms survive as it is?

Malcolm McLean

I was most interested, if a little surprised, to read in a recent report from the public accounts committee that it sees pension freedoms as a potential trigger for mass financial misselling.

Some misselling – ok, perhaps relatively speaking, quite a lot – probably. Many people getting it wrong and drawing too much or too little from their pensions? Certainly. And the Treasury surreptitiously doubling or even trebling its tax take? Undoubtedly. But mass financial misselling? That sounds very alarmist and takes the problem to quite another level, which, if it were true, should mean a dramatic curtailment and/or rowing back on the entire policy forthwith.

I doubt very much the Government would want to go down that road; certainly not at this relatively early stage. That said, there is no room for complacency about the risks inherent in a major policy switch that was sprung on the industry at very short notice and with little time to prepare.

Most of us thought the introduction of pension freedoms was generally a good thing from a consumer perspective but there is no doubt it substantially complicated the whole decumulation process and exposed individuals to pitfalls that did not exist previously. Clearly, much more has to be done to ensure consumers have a better understanding of the products they are purchasing and, in many instances, the risks involved.

Common misconceptions include the notion a pension pot can be used for withdrawals like a bank account or for the purchase of a buy-to-let property without making clear the tax consequences in either situation. The freedoms have also resulted – indirectly, at least – in an increase in pension frauds and other scams, exposing new retirees to the risk of being conned out of their hard-earned savings.

“I am afraid, for many, annuities are now something of a tarnished brand, seen as being of poor value and inflexible”

The Government is looking to reorganise the Pension Wise service to make it more effective in terms of delivering better guidance to consumers. However, that is not enough. There needs to be a concerted effort from across the industry to improve understanding and encourage the taking of regulated financial advice wherever and whenever it is appropriate to do so – which may be more often than most currently seem to think.

The so-called second line of defence also needs to be beefed up, while the language of pensions has to be sorted out and made much more consumer-friendly too. It goes without saying ridiculous expressions such as uncrystallised fund pension lump sum must be cast aside without further delay.

And should we not be making more of an effort to try to restore the image and reputation of annuities? Despite the alleged popularity of the freedoms I cannot help but feel the majority of new retirees just want a regular, secure, guaranteed income throughout their retirement, which is exactly what an annuity will give them. But I am afraid, for many, annuities are now something of a tarnished brand, seen as being of poor value and inflexible.

There are new products on the market but these are yet to fully make their mark. Hopefully, in the fullness of time, they can develop into something that gains wider recognition. Indeed, there is still an awful long way to go before annuities become the natural end product of a defined contribution savings plan once again – if ever.

So where might we be in five or 10 years’ time? Will the trigger the public accounts committee fears be pulled and kill the policy stone dead, as it appears to have done in Australia? Or can pension freedoms, as a concept at least, be built upon and, alongside a more vibrant annuity market, be made to work better for the benefit of all? We shall no doubt find out in the light of hard experience in due course.

Malcolm McLean is senior consultant at Barnett Waddingham


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There are 7 comments at the moment, we would love to hear your opinion too.

  1. simon cormack 31st May 2016 at 2:57 pm

    Wise words from Mr McLean (although I should be interested to see the evidence behind the assertion that “Most of us thought the introduction of pension freedoms was generally a good thing from a consumer perspective”).

    Of course annuities have been looked on with disfavour for many years now. When real yields dropped signficantly from their historic norms, at first people were saying “don’t buy now – they are expensive at the moment”. But when yields failed to recover, the accepted wisdom changed to just “don’t buy – they are expensive”. If they had always been this price, I doubt whether they would have recieved such a bad press.

    I remember reading an article many years ago by someone from the Pru I think (I have not subsequently been able to track it down). Against the general background of everyone moaning about annuities, he suggested that if they had just been invented, everyone would be praising them to the rafters. “Annuities – a hard act to follow” I think was the title. (Or at least that was a phrase from the piece that I found memorable.)

  2. I think the sustained low yield period allowed the average person to see behind the wizard’s curtain. e.g. I give someone £100k, and they give me £5k a year back until I die. Since some of the money education available and internet, people might do the maths and say if I’m allowed to keep the money myself and I put it in safe”ish” tax efficient savers and get 2% yield, it will last me 25 years and if I die before that age what’s left goes to my estate. With the pension age hitting 67, the amount of people who will gamble they’ll reach 92 against an average life expectancy of about 80 in the UK and less than 1% of the population reaching 90 must be low. If a bookie sold annuities he might say it’s a 100/1 shot that you’ll reach 92 and “win”. Once you reach 92, with the other 1% of the nation you’re not gambling with your money anymore, its free cash they give you. Only 1 in a 100 will “beat the house” so I’m not surprised people look down on annuities. OK I’ve simplified it to the nth degree but there is a point in there somewhere.

    • simon cormack 1st June 2016 at 4:47 pm

      I can see why punters can be put off annuities.

      They might, as you have suggested, done a bit of research, done the maths and come up with the wrong answer (the maths is not trivial, and research also suggests that people consistently underestimate their future life expectancy).

      They might also, as my HNW clients years ago always did, look at things in an asymmetric way: they put much more weight on the chance of dying early and ‘losing’ then they do to the chance of living longer than average and ‘winning’ (this is a known phenomenon which I believe both phycologists and economists have phrases for, although I can’t recall either).

      But there is little excuse for advisers to be similarly prejudiced. It is really quite simple: compared with an alternative risk-free investment, you lose a little bit in charges and in return you get an income which is perfectly matched to your lifetime.

      That is not the ideal solution for everyone of course. Some might prefer to take more risk, chasing a higher return (time for someone to come up with a revamped investment / wp annuity anyone?); and some will argue that income perfectly matched to life expectancy is not the same as income perfectly matched to expenditure.

      But I would argue that for millions of people who will be relying on very modest DC pots to help give them some dignity in retirement, once they have reached say 70, an annuity is indeed a hard act to follow.

  3. Another example of the choice paradox. If there is no choice then you cannot be dissatisfied with the outcome. Think of buying a car in the old East Germany. There was only one type on offer, it was rubbish but there was no alternative so you couldn’t regret your purchase. When you have a choice there is risk that you may make, even when advice is taken, the wrong one. If you want a range of options to chose from you have to accept that you may be dissatisfied with the outcome.

    There is also another paradox, that good advice can result in bad outcomes but that is for another day.

  4. Christopher Petrie 1st June 2016 at 7:23 am

    Anyone who reaches 67 is statistically likely to live past 80.

    More than 1% of the population live past 90.

  5. Chris P, where do you get your numbers from? There were 440,290 nonagenarians in England and Wales in 2011 plus 11,700 centenarians. Out of a population of 56.1 Million. Only 0.81% of the population at the last census where 90 or over. p.s. I have no vested interest either way I just like numbers/odds/stats etc. and how people react to them.

  6. Good afternoon folks – AGE UK analysis of the UK Population (May 2016)

     There are now 11.4 million people aged 65 or over in the UK.
    1 There are over 23.2 million people aged 50 years and over, over a third of the total UK
    2 There are now 14.9 million people in the UK aged 60 and above.
    3 1.5 million people are aged 85 or over.
    4 There are now more people in the UK aged 60 and above than there are under 18.
    5 The number of centenarians living in the UK has risen by 72% over the last decade to 14,450
    in 2014.
    6 When asked what stage of life they were currently in (given choices), 55% of 60-64 year olds
    said ‘later life or old age’, but 43% of them said ‘middle adulthood’. For 65-69 year olds, the
    split was 75% ‘later life’ and 23% ‘middle adulthood’.
    7 Yet people’s ideas of when ‘later life’ started were quite early: in the 60-64 year old group, men
    said age 61 and women said 64; in the 65-69s, men said 62 and women said 66.8

    Population projections
     The number of people aged 60 or over is expected to pass the 20 million mark by 20309
     The number of people aged 65+ is projected to rise by over 40 per cent (40.77%) in the next 17
    years to over 16 million10.
     By 2040, nearly one in four people in the UK (24.2%) will be aged 65 or over 11
     The percentage of the total population who are over 60 is predicted to rise from 24.2% at
    present to over 29% in 2035.12
     The number of people over 85 in the UK is predicted to more than double in the next 23 years
    to over 3.4 million.13
     The population over 75 is projected to double in the next 30 years 14
     Nearly one in five people currently in the UK will live to see their 100th birthday (see section on
    life expectancy below). This includes 29% of people born in 2011.15
     However, according to the ONS the UK’s population is ageing more slowly than other EU
    countries, predicted to be one of the least aged countries in the EU-27 by 2035.16
    Within the older population
     3.5 million 65+ live alone. This is 36% of all people aged 65+ in GB.17
     Nearly 70% of these are women.18
     2 million people over 75 live alone; 1.5 million of these are women.19
     61% of widows (male and female) in England and Wales are aged 75 and over 20
     Black and minority ethnic (BME) groups make up just under 20% of the population of England
    and Wales, but 8% of people in England and Wales aged 60 and over 21
     The LGBT rights charity Stonewall estimates there are 1 million lesbian, gay and bisexual
    people aged over 55 in Britain 22
     It is estimated that there are 14 million grandparents in the UK, 1.5 million of whom are under
    50 23
     An estimated 80 per cent of people aged 65 and over in England and Wales give their religious
    affiliation as Christian, and 9% ‘No religion’24
     In December 2015 there were 4,308 prisoners aged 60 and over in England and Wales, and
    increase of 11 per cent since December 2014.25

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