Drawdown options – changing perceptions through innovation
11 Sep 2017
July’s FCA Retirement Outcomes report revealed that since the introduction of the pension freedoms in 2015 over half (53%) of pensions pots accessed have been fully withdrawn with the cash from over half of these fully withdrawn pots moved into other savings or investments. The FCA states that “This can result in consumers paying too much tax, missing out on investment growth or losing out on other benefits.” It seems that consumers are missing a trick, but providers need to develop innovative products which show consumers there are better options.
We did our own number crunching which showed how a pot of £20K left in a drawdown account would perform against a cash ISA over 5, 10 and 20 years.
If the full pot of £20k was left in a drawdown account it would reap a significantly better financial reward. Not only would the £20k in a drawdown account keep the tax that may be paid when withdrawing from the pension wrapper, but it is likely to benefit from a modest, annual return after charges of 2.5%, by remaining invested in an appropriate fund within the drawdown product.
The difference in return is as follows:
Fund @ 5
Fund @ 10
Fund @ 20
People who are withdrawing the cash and putting it into savings vehicles such as cash ISAs are probably doing this for emotional rather than rational reasons. They possibly feel that if they left the £20k in a pension drawdown account it would be removed from their control. They feel that they would have a greater ability to control their money by depositing it in a cash ISA. This need for control and flexibility could outweigh the obvious financial benefits of the drawdown account.
Providers need to recognise this and provide flexible access drawdown accounts with tools and systems that allow consumers to see that their money is readily accessible. They can still withdraw from these accounts and they are far more tax efficient. Providers need to help customers to overcome the emotional hurdles and see that they can still have access and control of their money.
The pensions pots that are being moved to cash seem, at the moment, to be relatively small. In the future these are likely to be much bigger. So, it is vital that consumers deciding whether to withdraw from their pension post have a viable alternative that has tax advantages, better returns and the ability to have flexibility and control.
*This figure is based on the assumption that of the starting 20K pot, £5k would be tax free when taken from the pension fund, and assuming that the individual has already used their nil-rate tax allowance for the year, the other 15k would be taxed at 20% leaving £12k. This would leave £17k cash for a withdrawn pot. For the purposes of our analysis we have assumed that this was then deposited in an instant access cash ISA with an average current interest rate of 1% per annum.