AJ Bell report The Pension Freedoms Engagement Gap December 2017
Executive summary Introduction: Full withdrawals are not as common as previous data suggests The analysis of the pension freedoms to date has focused on pension pots in isolation, concluding that 53% of pension pots accessed under pension freedoms have been fully withdrawn. This implies that people are withdrawing their entire pension savings under pension freedoms but this report suggests that in the majority of cases this will be people withdrawing the entirely of one pension pot, leaving other pension savings untouched. This new research looked at people s entire pension savings that are being accessed under pension freedoms, rather than individual pension pots. In this context, only 7% of people questioned have fully withdrawn all their pension savings available to them via the pension freedoms. The report also examines the level of withdrawals they are making, the context in which those withdrawals are being made and how people are feeling about the sustainability of their retirement income. Chapter 1: Longevity risk has been transferred from insurance companies to pension savers Income drawdown commenced in 1995, really as a facility to defer annuity purchase. Relatively few people used it as an income option in its own right and those that did generally had larger pension pots that could absorb the investment risk being taken. A rule of thumb was that income drawdown was only suitable for pension pots worth over 100,000. Just two and a half years on from the introduction of pension freedom and almost two-thirds (64%) of people using the new flexibility have total pension savings worth less than 100,000 and almost half (48%) have total pension savings of less than 50,000. Previously most of these people would have bought an annuity, so this represents a transformational shift of longevity risk from insurance companies to pension savers, a trend that has significant long term implications. It is crucial that people understand this risk, factor it into their investment strategy and control their withdrawals so that they last for their lifetime. This research, however, identifies an engagement gap that would make this very difficult in many cases. Chapter 2: Pension savers feel in control (but many are worried about running out of money) The dramatic shift away from annuities following pension freedoms has been driven primarily by people wanting control over their retirement savings, with half (52%) giving this as a reason for not purchasing an annuity. The poor value perceived in annuities is also a major contributing factor, although this was a distant second with only 30% of people citing that as a factor. Interestingly, men are more than twice as likely to see annuities as poor value (38%) than women (15%). The freedom and choice given to people by the new pension rules has clearly resonated with the UK public and so far it seems to be having the desired effect. Just over three quarters (78%) of people said they felt either totally in control (38%) or somewhat in control (40%) of their retirement income. However, with greater freedom comes greater responsibility and the investment and longevity risks that come with remaining invested in retirement are clearly weighing on many people s minds. Almost half (46%) of the people using pension freedoms say they worry about running out of money, albeit only 12% say they worry a lot. It is still early days and this angst about running out of money may yet prove a catalyst for people to seek the security of a guaranteed annuity income for at least part of their retirement savings. The trend is more pronounced for women, where 84% have pension savings worth less than 100,000. The average pot size for women using the pension freedoms is 44,146, compared to 162,665 for men which perhaps explains why there are twice as many men using the pension freedoms as women (63% versus 37%) 2
Chapter 3: Question mark hangs over the sustainability of pension freedom withdrawals Based on the data collected so far by HMRC and the FCA, it is easy to jump to the conclusion that people are withdrawing too much and are heading for destitution as a result of the pension freedoms. The withdrawal trends from this survey do nothing to appease those concerns. The vast majority of people (77%) are withdrawing more than 4% of their fund each year, a figure that is often regarded as a sustainable level of withdrawals. Of course this can only ever be a guide and the actual level of sustainable withdrawals with vary per person. Perhaps more worryingly 44% of people are withdrawing more than 10% of their pension savings each year. Based on the average level of pension savings of 118,000 those levels of withdrawals would only last for a maximum of 12 years. These levels of withdrawals might be OK for people in their 70s or 80s but the research suggests that people in the younger age brackets are actually more likely to make larger withdrawals. 57% of people in the 55-59 age bracket are withdrawing more than 10% of their fund each year. This reduces to 43% of people in the 60-64 age bracket and 34% of people in the 65-69 age bracket. However, this research also reveals a crucial fact that puts these withdrawal levels into perspective - the vast majority of people (96%) have other sources of income in addition to what they receive through pension freedoms. For example, on average people using the pension freedoms get almost half (47%) of their income from the state pension or a salary based company pension, whereas only 16% comes from income drawdown on average. In a sign of how retirement is changing, 25% of people are still working even though they have started drawing from their pension. The multiplicity of income sources that people have is a crucial dynamic when considering how people are using the pension freedoms. Only two in five (42%) people say they are using the withdrawals for day-to-day living. Given that is what pensions are really designed for, that figure can be viewed as low. There is also a strong element of gratuitous spending, with a quarter of people using withdrawals to purchase luxury items such as holidays and cars. This suggests many people are using income from other sources to fund their day to day needs, leaving their pension pots to continue to grow and dipping into them as and when they need to. This is further backed up by the fact that 47% just take ad hoc lump sums, compared to 35% who just take regular withdrawals. Conclusion: There is a clear pension freedoms engagement gap The true impact of the decisions people are making today will only be known in years and decades to come. However, this research has identified five areas where lack of knowledge or engagement by people using pension freedoms is likely to lead to poor outcomes further down the road. 1. 53% of people don t know how their pension fund is invested 2. 26% never review the amount they are withdrawing 3. 22% of 55-64 year olds think their pension income only needs to last for 10 years 4. 16% of people are using pension freedoms withdrawals to save in a bank account 5. 88% of people don t know how their pension will be taxed on death Given the haphazard way the pension freedom reforms were introduced and the fact they are still less than three years old this engagement gap is perhaps understandable. Whatever the reason, it is clear that there is still some way to go before the pension freedoms are fully understood and are being used as efficiently as possible. It is vital policymakers now focus on making it as easy as possible for advisers, employers and providers to communicate with savers to give people a better understanding of retirement issues. Failure to engender genuine engagement and improve the availability and take-up of regulated advice risks leaving a generation of savers fumbling through the pensions wilderness. 3
Introduction: Full withdrawals are not as common as previous data suggests On 19 March 2014 then Chancellor George Osborne announced arguably the biggest retirement experiment in history. A market which encouraged most people to secure a guaranteed income for life through annuitisation would be uprooted, with savers handed absolute freedom and choice over how they spend their pension pots from age 55. What followed was something of a mad scramble involving politicians, regulators and the industry to get ready for the launch date on 6 April 2015. Rules needed to be written, consumer protections put in place and provider systems updated to allow people to access the new options on offer all in a little over one year. But how are savers using this new-found freedom? What we know already The most recent figures provided by HM Revenue & Customs (HMRC) show just over 12.5 billion1 in flexible payments from pensions had been made since the freedoms launched. However, given reporting of this data wasn t made compulsory until April 2016 this is likely to be significantly lower than the true figure and, in any case, the total amount that has been withdrawn is not particularly informative. The same data shows that the average withdrawal per person has levelled off over the past year at just under 10,000. However, this data is still fairly unhelpful without any context around the wider income patterns of the individuals making the withdrawals. A 55 year old who takes 10,000 from a 100,000 defined contribution pot might be considered to be making unsustainable withdrawals if that were their only pension pot. However, if they had a defined benefit pension worth 25,000 a year or other significant DC savings then the decision all of a sudden looks a lot more affordable. Key findings from the report include: Over half (53%) of pots accessed since April 2015 have been fully withdrawn 90% of these were small pots (i.e. worth less than 30,000) 94% of consumers making full withdrawals had other sources of income What we don t know yet The data referred to above has largely focused on pension pots in isolation or on people who have made full withdrawals. It implies that over half the people using the pension freedoms are withdrawing their entire pension savings but this report suggests that in the majority of cases this will be people withdrawing the entirely of one pension pot, leaving other pension savings untouched. This new research looked at people s entire pension savings that are being accessed under pension freedoms, rather than individual pension pots. In this context, only 7% of people questioned have fully withdrawn all their pension savings available to them via the pension freedoms. The report also examines the level of withdrawals they are making, the context in which those withdrawals are being made and how people are feeling about the sustainability of their retirement income. Research method Independent polling agency ComRes interviewed 250 British adults aged 55+ who have started taking flexible pension withdrawals since April 2015. The research was conducted online in July 2017. The Financial Conduct Authority (FCA) in its interim Retirement Outcomes report2 has gone further in attempting to build a picture of how people are using the reforms, with a particular focus on people who are withdrawing their entire pension fund in one go. 1. https://www.gov.uk/government/statistics/flexible-payments-from-pensions 2. https://www.fca.org.uk/publication/market-studies/retirement-outcomes-review-interim-report.pdf 4
Chapter 1: Longevity risk has been transferred from insurance companies to pension savers Income drawdown commenced in 1995, really as a facility to defer annuity purchase. Relatively few people used it as an income option in its own right and those that did generally had larger pension pots that could absorb the investment risk being taken. A rule of thumb was that income drawdown was only suitable for pension pots worth over 100,000. Today, almost two-thirds (64%) of those questioned had total pension savings worth less than 100,000, rising to 84% for women. There are roughly two men for every one woman using pension freedoms (63% versus 37%), a bias that perhaps reflects the fact women over 55 on average tend to have lower levels of pension savings. In our surveyed sample, men on average had total pension savings worth 162,665 compared to 44,146 for women. The overall average value of pension savings being accessed through the pension freedoms is 117,961. Furthermore, almost half (48%) had total pension savings of less than 50,000 these are people who almost certainly wouldn t have entered drawdown prior to April 2015. Significantly more women (35%) have pension savings of less than 10,000 than men (13%). Previously most of these people would have bought an annuity, so this represents a transformational shift of longevity risk from insurance companies to pension savers, a trend that has significant long term implications. What is the approximate value of your pension funds combined? Total Men Women Less than 10,000 21% 13% 35% 10,000 to 49,999 27% 24% 33% 50,000 to 99,999 16% 17% 16% 100,000 to 499,999 24% 32% 10% 500,000+ 4% 6% 0% Don't know 9% 10% 7% 5
The myth of multiple small pots? We also discovered something surprising (at least on the face of it) about the number of pension pots people using the pension freedoms have. It is often said that workers will, on average, have 11 different jobs during their working lives which could lead to them having vast numbers of tiny pension pots strewn among an array of providers. The Government first attempted to tackle this perceived problem by introducing pot follows member reforms that would have meant pensions would transfer automatically when someone moved to a different employer. These plans were subsequently shelved in favour of a Treasury-led Pensions Dashboard project which aims to allow savers to see all their pots in one place by 2019. However, among pension freedoms users the reality appears to be quite different. The vast majority (77%) of those surveyed said they had only 1 or 2 funds, while only one person had 5 or more. Some 13% didn t know how many pension pots they had. While this might seem to contradict perceived wisdom about the proliferation of small pots, there are a number of possible explanations. Firstly, this sample is of people aged over 55 who have accessed the pension freedoms, so they may have already consolidated multiple pension pots into one fund beforehand. Furthermore, savers having lots of jobs throughout their lives is a relatively recent phenomenon which may not have affected people in their fifties. It is also, of course, possible that those surveyed have other pensions from previous employers that they have forgotten about. It is nevertheless interesting that the issue of multiple pots is perhaps less of a problem among pension freedoms customers than some might assume. How many pension funds do you have? 56% 21% 8% 2% 0% 13% 1 2 3 4 5 or more Don t know 6
Chapter 2: Pension savers feel in control (but many are worried about running out of money) The stated logic behind the pension freedoms reforms was two-fold. Firstly, former Chancellor George Osborne said in his 2014 Budget speech, most people still have little option but to take out an annuity, even though annuity rates have fallen by a half over the last 15 years. Argument one: annuities offer poor value for money. Secondly, Osborne argued, the tax rules around these pensions are a manifestation of a patronising view that pensioners can t be trusted with their own pension pots. I reject that. Let me be clear. No one will have to buy an annuity. Argument two: people should be given more flexibility over how they spend their retirement savings. It turns out that he was on to something, although interestingly it is the second argument that resonates more with people now using the freedoms Osborne introduced. Half (52%) the people using pension freedoms say maintaining control over their savings is one of the reasons they chose not to purchase an annuity. Poor value is the second most popular reason for not purchasing an annuity, although far fewer people (30%) cited this as a factor. Interestingly, there is a large disparity between perception of value in annuities between men and women with men more than twice as likely to see them as poor value (38%) than women (15%). This may be partly explained by a 2011 European Court of Justice ruling which forced insurers to offer equal annuity rates to men and women from December 2012. The ruling generally saw a drop in value for male annuities, whereas previously they would have received more than women due to their lower life expectancy. The low numbers for women suggest they are more likely to perceive value in annuity rates and use them for at least part of their overall retirement planning. The attractive inheritance tax treatment of pension funds is the third most common reason for giving annuities the cold shoulder. The fact only one-infive (22%) cite this as a primary factor may reflect a lack of understanding of the pensions death benefits rules. For which of the following reasons, if any, did you not purchase an annuity? I prefer to maintain control over my retirement savings 52% I think they are poor value 30% I want to be able to pass on my pension fund in the event of my death 22% I don t understand them 9% Other 12% None of the above 8% 7
People using the pension freedoms do feel in control On the whole, most people feel they have greater control over their retirement savings as a result of the pension freedoms. Just over three quarters (78%) of respondents to our survey said they felt either totally in control (38%) or somewhat in control (40%) of their retirement income. Less than a fifth (16%) stated that they didn t feel in control, while 7% chose not to respond. Three-fifths (61%) of the people who feel in control of their retirement income sought some kind of advice or guidance and over half of them saw a regulated financial adviser. Conversely, only 44% of those that do not feel in control of their retirement income sought help and only 18% of them saw a professional financial adviser. Do you feel in control of your retirement income? 38% 40% 16% 7% Yes - I feel totally in control Yes - I feel somewhat in control No - I do not feel in control Prefer not to say but many of them worry about running out of money. One of the key risks of the freedom and choice reforms is, of course, running out of money too soon. While savers might generally feel in control of their retirement spending, many still worry about exhausting their fund too quickly. While only 12% of respondents said they worry a lot about draining their pot before they die, just over a third (34%) worry a little. However, almost half (49%) don t worry at all. Again, we see that men and women respond differently to freedom and choice, with a net 43% of men having at least some worry about their withdrawals versus over half (51%) of women. Clearly what these results mean depends on the circumstances of the individual people. Some of the 49% who are not worried at all about their withdrawals perhaps should be, for example, but may be underestimating their life expectancy or overestimating potential investment returns. Equally, some of those who are worried might not need to be. 8
To what extent do you worry about your pension income running out too early? 12% 34% 49% 5% I worry a lot I worry a little I do not worry at all Don t know Financial advice / guidance Given the complexity associated with retirement investing, 60% of people seek some kind of help before entering income drawdown. Of those who sought some form of help, the largest proportion (34%) chose to use a regulated financial adviser, almost three times more than the Government s Pension Wise service. Did you seek any advice or guidance before entering income drawdown? 34% 40% 12% 11% 6% 4% 4% 4% A professional Pension Wise My partner Other family Friends My bank Other family No I did not 9
Chapter 3 Question mark hangs over the sustainability of pension freedom withdrawals Perhaps the biggest unanswered question in relation to the pension freedoms is whether the withdrawals people are making are sustainable and likely to last for their entire lifetime. First of all, 5% of people are taking zero income, most likely having just accessed their tax-free cash so far. For those taking withdrawals, the average across the board was just over 8,000 which is broadly consistent with Government data. Men are taking larger withdrawals on average ( 9,000) than women ( 6,000) and significantly more women (14%) are making withdrawals of less than 1,000 than men (5%), reflecting the fact women have lower fund values on average. All Male Female Less than 1000 8% 5% 14% 1,000 to 4,999 23% 23% 24% 5,000 to 9,999 15% 18% 11% 10,000 to 19,999 14% 16% 10% 20,000+ 7% 9% 4% Average withdrawal 8,046 9,038 6,018 To put these withdrawals into perspective, they need to be considered in relation to people s overall portfolio values. The vast majority of people (77%) are withdrawing more than 4% of their fund each year, a figure that is often regarded as a sustainable level of withdrawals. Of course this can only ever be a guide and the actual level of sustainable withdrawals will vary per person. 32% % of respondents 23% 12% 10% 6% 3% 2% 2% 9% 1-4 5-10 11-15 16-20 21-25 26-30 31-35 36-40 41+ Fund withdrawal per annum (%) 10
Perhaps more worryingly 44% of people are withdrawing more than 10% of their pension savings each year. Based on the average level of pension savings of 118,000 those levels of withdrawals would only last for a maximum of 12 years. Year 6% withdrawal ( 7,080) 10% withdrawal ( 11,800) 5 103,684 77,096 10 86,265 27,330 15 65,074 20 39,291 25 7,922 Year money runs out 26 12 The table shows the fund value each year based on 4%, 6% and 10% withdrawals of the initial fund value of 118,000. Assumes 4% investment growth per annum post charges. These levels of withdrawals might be OK for people in their 70s or 80s but the research suggests that people in the younger age brackets are actually more likely to make larger withdrawals. 57% of people in the 55-59 age bracket are withdrawing more than 10% of their fund each year. This reduces to 43% of people in the 60-64 age bracket and 34% of people in the 65-69 age bracket. Life expectancy guessing game The reason for these potentially unsustainable levels of withdrawals is because it seems the younger people are, the more likely they are to underestimate how long their pension income will need to last for. 51% of people in the 55-59 age bracket anticipate that their pension income will need to last for less than 20 years. However, the latest ONS data shows that men in this age bracket are expected to live for another 24 to 27 years and women are expected to live for another 26 to 30 years. Almost a quarter (24%) of people in that age bracket anticipate their pension income will need to last for less than 10 years. That is less than half the time they can expect to live for on average. Similarly, 47% of people aged 60-64 anticipate their pension income will need to last for less than 20 years, whereas men can expect to live for another 20-23 years and women another 22-25 years. (see table 1 below) 11
How long do you anticipate your pension income will need to last for? Age 55-59 Age 60-64 Age 65-69 Age 70-74 Less than 5 years 9% 11% 2% 5% 5-10 years 15% 10% 6% 20% 11-15 years 9% 10% 15% 20% 16-20 years 18% 16% 28% 15% 21-25 years 18% 30% 17% 15% 26-30 years 15% 13% 20% 10% 31-35 years 6% 4% 2% 0% 36-40 years 4% 1% 1% 5% More than 40 years 7% 4% 7% 10% No of years to live:* Male 27 24 23-20 19-16 15-12 Female 30-26 25-22 21-18 17-14 Proportion underestimating how long income will be needed for 51% 47% 23% 25% *ONS Expectation of life tables, 1 December 2017 - https://www.ons.gov.uk/peoplepopulationandcommunity/ birthsdeathsandmarriages/lifeexpectancies/datasets/expectationoflifeprincipalprojectiongreatbritain Other income sources On its own, the data above could be quite worrying but one of the most revealing findings from this study is that the vast majority of people (96%) have other sources of income in addition to their pension freedoms pot(s). Over half (57%) the people questioned have at least two other sources of income over and above the pension freedoms: 12
Number of additional income sources 4% 35% 28% 15% 9% 5% 1 2 3 4 5 6 The state pension and salary-based company pensions are the two most significant income sources for people who are using the pension freedoms. Over half the people questioned have started receiving the state pension, with it accounting for almost a quarter of their overall income. The same number of people who are using income drawdown via the pension freedoms also have a salarybased company pension. Crucially, income drawdown only accounts for 16% of people s overall income mix and whilst this does not include any ad-hoc withdrawals they might be making under pension freedoms, it does show the pension freedoms make up a relatively small proportion of their regular income. A quarter (25%) of people are still working, either full or part-time, despite having accessed the pension freedoms already, showing the transition from working to retirement is not as clean cut as it was in the past. Proportion of people who have access to income source Average proportion of overall income that comes from each source State pension 53% 24% Other state benefits 15% 4% Final salary or company pension 49% 23% Personal pension income drawdown 49% 16% Full time work 9% 6% Part time work 16% 4% Savings accounts 23% 3% ISAs 19% 2% Other investments 12% 1% Buy-to-let 5% 2% Other 7% 2% 13
How people are using the money The most common use for pension freedoms withdrawals is for day-to-day living. This is exactly what pensions are designed for so it is perhaps concerning less than half (42%) of people questioned put this at the top of their list. However, nearly all of these people have other sources of income which may meet their day-to-day needs. Perhaps one of the most surprising findings is that almost a third (32%) of people are using their withdrawals to invest in another product or to save into a bank account. Given the tax-efficient nature of pensions, both while the money is invested and upon death, it is questionable whether this is an efficient use of withdrawals. More on that in the next chapter. One in four people (26%) are using pension freedoms withdrawals to purchase luxury items, suggesting there is a strong element of gratuitous spending. How have you used the withdrawals? Total Male Female Day-to-day living 42% 46% 36% To purchase luxury items (i.e. holidays, cars, home improvements etc.) 26% 29% 20% To pay off debt 19% 20% 17% To invest in another product 16% 17% 15% To save in a bank account 16% 14% 18% To help my children 10% 10% 9% To pay for care 2% 3% 1% Other 4% 5% 3% 14
Types of withdrawal The types of withdrawals people are making also impact how they use them. Almost half (47%) are taking just lump sums when they need them, 35% are taking regular withdrawals and 18% are taking both. Those who take regular withdrawals are significantly more likely than those just taking lump sums to use them for day-to-day living (68% and 53% vs 27%). Types of withdrawal 47% 35% 18% Ad hoc lump sums Regular withdrawals Both Interestingly, 42% are managing to fund their withdrawals solely from the natural income their investments produce, which means they are not eroding their capital at all. One in five (21%) are selling down their investments to meet their income needs but worryingly, 37% of people don t know how their withdrawals are being met. 15
How withdrawals are funded 42% 21% 37% Solely from income Selling investments Don t know Encouragingly, 65% of people are reviewing the amount they are withdrawing at least once every year. This is essential to keep track of whether withdrawals are sustainable or not. However, over a quarter (26%) say they never review the amount they are withdrawing. This reduces to 14% for those that have seen a financial adviser but increases to 36% for those that have not taken advice or guidance from anywhere. Approximately how often do you review the amount you are withdrawing? At least once a month 16% Every 3 months 9% Every 6 months 8% Every year 32% Every 2 years 2% Never 26% NET : Every year 65% 16
Conclusion The pension freedoms engagement gap The true impact of the decisions people are making today will only be known in years and decades to come. With longevity risk being transferred from insurance companies to pension savers in many cases it has become crucial that people understand this risk, factor it into their investment strategy and control their withdrawals so that they last for their lifetime. This research, however, has identified an engagement gap that would make this very difficult in many cases. There are five areas where lack of knowledge or engagement by people using pension freedoms is likely to lead to poor outcomes further down the road. 1. 53% of people don t know how their pension fund is invested Having a clear investment strategy is essential to controlling the investment and longevity risk people are taking on when using the pension freedoms. It is important that people understand how much risk they are taking with their investments and the impact this could have on their fund size and hence how much income they are able to take from it. Making withdrawals that are higher than the investment return generated by the portfolio is going to see it dwindle over time but making withdrawals from a portfolio that is losing money is likely to be a road to ruin. Yet, a third of people (37%) don t even know whether their withdrawals are from natural income or selling investments. Sustainability of withdrawals while using pension freedoms should be one of the highest priorities for people and the level of withdrawals in relation to the natural income a portfolio produces has a huge bearing on this. If the level of withdrawals is equal to or even less than the income the portfolio generates in dividends and interest payments then the fund is likely to be able to sustain those withdrawals over a long period of time. If withdrawals are higher than the natural income the fund is producing, investments will have to be sold to meet those withdrawals. Not only does that incur trading costs but it means the capital value of the portfolio will be eroded over time and it may not be able to sustain the withdrawals that are required in future. 2. 26% never review the amount they are withdrawing There are three interrelated factors that will affect how long a fund will last for under pension freedoms timeframe, level of withdrawals and portfolio performance. No one knows how long they are going to live for or how stock markets are going to perform in future. Even the level of withdrawals may have to vary due to unforeseen circumstances. Therefore, even the most carefully considered withdrawal plan needs to be reviewed regularly, at least every year, to check that it remains on track. 3. 22% of 55-64 year olds think their pension income only needs to last for 10 years or less People need to have an idea of how long they might live for in order to understand how long they might be withdrawing money from their pension fund and hence how long it needs to last for. No one has a crystal ball but average life expectancy for a 65 year old man in Britain today is almost 19 years and for women it is just over 21 years. That is essentially double what many 55 64 year olds think today. Maybe they have other income they plan to rely on in later life or are in particularly poor health but the danger is they are simply not thinking carefully enough about how long their pension fund will need to last for. Underestimating this is likely to lead to withdrawal levels that are unsustainable should their pessimism be unfounded and they live to an old age. 4. 16% of people are using pension freedom withdrawals to save in a bank account It is very difficult to see how this would be beneficial. If immediate access is required to the cash it may make sense but money can be withdrawn from a pension at any time now. One of the main reasons for utilising the pension freedoms is to remain invested in the market in order to try and make pensions savings go further, so to withdraw it and hold it in cash which will be earning 17
a paltry level of interest seems counter intuitive. Added to that, money held in bank accounts has a potential Inheritance Tax liability, unlike pensions. The same number of people are using withdrawals to invest in another product. There may be cases where this makes sense but given the tax efficient nature of pensions, it is something that should be very carefully considered. ISAs are the only other product that have the same Income and Capital Gains Tax advantages as pensions while the money remains invested, but ISAs are liable to Inheritance Tax should the worst happen. Pensions can be passed on free of Inheritance Tax, with no tax being due if the person dies before age 75 and Income Tax being due by the beneficiary if the person dies after age 75. 5. 88% of people don t know how their pension will be taxed on death The tax treatment of pensions upon death is one of the most attractive elements of the pension freedoms but there is significant lack of understanding around this, which may be the cause of some of the actions referred to above. There is no Inheritance Tax liability on investments held within a pension. If the person dies before age 75 their beneficiaries can receive the funds tax free, if they die after age 75 their beneficiaries will pay Income Tax on the inherited pension. Only 12% of people understood this clearly, with nearly half admitting outright that they don t know. Not understanding the true tax-efficient nature of pensions can lead to withdrawals which create an unnecessary tax liability for the individual or their beneficiaries. How do you think your pension fund will be taxed in the event of your death? It will be tax-free 18% It will be subject to Income Tax of the beneficiary 15% It will be tax-free if I am under 75 and subject to Income Tax of the beneficiary if I am over 75 12% It will be subject to Inheritance Tax 9% It will be subject to Capital Gains Tax 2% Don t know 44% Given the haphazard way the pension freedom reforms were introduced and the fact they are still less than three years old this engagement gap is perhaps understandable. Whatever the reason, it is clear that there is still some way to go before the pension freedoms are fully understood and are being used as efficiently as possible. 18
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