Too Much, too Young? Will Pensioners Outlive their Pension Pot?

Whilst it may not make for great tabloid headlines, a recent survey by the Association of British Insurers (ABI) suggests that whilst a small minority may be using the new pension freedoms to plunder too much from their retirement pots too soon, the vast majority of savers are actually behaving in a prudent fashion.

Since April 2015 the requirement to purchase an income for life via and annuity was removed, allowing those over 55 to withdraw, draw down or invest as they choose.

The ABI published data for the first full year since the pension freedoms began, from April 2015 to April 2016, and whilst some look set to exhaust their pot within a decade, most are being eminently sensible.

One of the key findings was that the majority of retires – six in ten – are withdrawing money from their pension pots at a rate of around 4% a year. Only the minority, around 5%, have opted to take big withdrawals, equal or greater to 40% of their pots.

Almost 80,000 pots of varying sizes had some money withdrawn from them; of those that had been tapped, in 57% of the cases the amount withdrawn amounted to less than 1% of the total value of the pot.

However, 4% of pots, almost 3,500, where withdrawals were made, had 10% or more of their value taken out.

‘the majority of savers are taking a sensible approach’

According to the ABI, ‘the majority of savers are taking a sensible approach’. The trade body, however, cautioned that ‘there are signs a minority may be withdrawing too much too soon and at rates that would see their money run out in a decade or less, if they are reliant on their pension pot as their main source of income.’

However, ABI said it cannot tell from the data whether savers taking out big chunks from their pots have other sources of income to keep their finances ticking over, for example money from property investments or other pension pots.

Yvonne Braun, the ABI’s director of policy, long-term savings and protection, said: ‘The freedoms have been implemented successfully, and are working as intended.

‘New data released shows that more than half of pots are having less than 1% withdrawn a quarter, which seems to indicate most people are taking a sensible approach.

‘However, the data also suggests a minority are withdrawing too much too soon from their pension pot – 4% of pots are having a tenth or more withdrawn – and many other customers are taking their entire pot in one go.

‘There may well be other factors at play here, such as people having other retirement income, for instance, final salary pensions or multiple pots. But this is a warning sign that requires further investigation.’

The quarterly figures also show annuity sales have fallen, with £950 million invested, compared with £1.1 billion the previous quarter.

Annuity rates have seen some sharp falls since the vote to Brexit and the recent cut in the Bank of England base rate to 0.25% could deliver a further blow to pensions.

‘The fall in annuity sales in the most recent quarter reflects ongoing pressure on rates, which will not have been helped by the recent decision to lower interest rates to a 300-year low, and further quantitative easing measures.’ said Ms Braun.

ABI reports that in the first of the new regime a total of £4.3 billion has been paid out in 300,000 lump sum payments, with an average payment of nearly £14,500.

Meanwhile, £3.9 billion has been paid out via 1.03 million drawdown payments, where money is taken as a flexible retirement income and any money left in the pot remains invested, with an average payment of £3,800.

Those choosing not to take advantage of the new freedoms have invested £4.2 billion in around 80,000 annuities, with the average fund invested at nearly £52,500.

Lump sum withdrawals have been decreasing since the start of the reforms, the ABI said, as pent-up demand from people looking to get their hands on their cash settles down; 96% of savers who took their whole pension pot were cashing in less than £10,000.

‘facing the potential nightmare scenario of outliving their pension pot’

Over the first year of the reforms, 41.5% of savers buying an annuity switched to another pension provider; ABI said those who stuck with their existing provider may have done so after shopping around because their existing provider offered them favourable rates.

Around half of annuity sales where customers did not switch had a guaranteed annuity rate attached.

Deciding how much to withdraw each year without facing the potential nightmare scenario of outliving their pension pot is one of the biggest dilemmas for those that who decide against buying an annuity.

Most financial advisers suggest a maximum withdrawal rate of 4% p.a. is sensible, and that retirees should aim to draw only the income produced by the pension investments rather than nibbling  away at their capital; however, recent research by Morningstar concluded that the ‘safe withdrawal rate’ for UK pension savers is actually just 2.5%.