Following Chancellor George Osborne’s radical reforms of the pensions system, DC pension scheme providers face a dilemma over how to structure schemes to suit a broad range of retirement outcomes.
As Osborne proudly proclaimed in a bruising Budget for the insurance sector, “no-one will have to buy an annuity”.
He was referring to the new pension freedoms set to be introduced from April 2015, giving retirees total access to pension savings from age 55.
Shares in annuity providers plunged on the back of the announcement, and recent data published by Iress indicates that many will move away from purchasing an guaranteed retirement income product.
In response to those changes, Now: Pensions last week confirmed it would move all savers in its default fund into cash or near-cash investment ten years ahead of retirement.
Currently, the firm’s default position is to put savers into its Retirement Protection fund – which has a built-in hedge against interest rate fluctuations – ten years before retirement. This fund is designed for people intending to purchase an annuity with their pension pot.
Members’ money is then moved into a Cash Protection fund six and a half years prior to their selected retirement date.
Following the Budget changes, Now: Pensions says it will be moving clients to a new Retirement Countdown fund – effectively a cash fund – ten years before their planned retirement date.
Chief executive Morten Nilsson says the move is because the scheme expects “the vast majority” of members to take all of their pension pot as cash at retirement.
Other providers face the same dilemma. But how can they plan a default option to suit both annuity-buyers and those planning to take cash or income drawdown?
Friends Life head of corporate pensions Martin Palmer says: “We are reviewing our strategy and the default position we’ve currently got needs to be amended. It will not be too dissimilar to Now: Pensions and will involve changing the assets to recognise that not everyone is going to be taking an annuity.”
Similarly, Standard Life says it will update its default option in the run-up to retirement.
Head of workplace strategy Jamie Jenkins says: “What we will do is, rather than go for a cash-based solution, we will look at a mix of assets that reduce volatility but it won’t be purely cash.
“Whether people go to an annuity, drawdown or choose to take it all as cash they will all still need some de-risking up to retirement. But de-risking into a very specific profile to target an annuity is not going to be right for everybody.”
Both acknowledge that the real difficulty rests with getting consumers to choose which retirement income option is right for them well ahead of retirement.
But with an auto-enrolled population and new pension freedoms, producing a default solution to meet all types of retirement choice will be a challenge.
Consumers that default into cash investment in the years leading up to retirement could regret a lack of appropriate hedging if they elect to buy an annuity.
Jenkins says the firm plans to bolster communications to nudge people toward making choices earlier.
“It is clearly more difficult to come up with something that suits the majority when the choice has been broadened so much,” he says.
“It is a big challenge to provide a single default and therefore we want to try and engage people a bit more and encourage them to make decisions.”
Palmer agrees. He says: “What we really want to do is get people thinking about the retirement and getting away from the default and choosing a strategy.
“The challenge is communicating with people to get them thinking about it. Trying to get people ten or fifteen years before retirement to thank about what they want to do.”
Given current evidence suggests the vast majority of people currently end up in the default option, there is plenty of work to be done if savers are to start taking control of their path to retirement.
Michael Glenister is a reporter at Money Marketing