I make no secret of being a big fan of income drawdown, and I have been since 1993. The pension historians will be quick to point out income drawdown did not feature in the UK pensions’ landscape until 1995.
But in 1993, I and colleagues at Provident Life (which later changed its name to Winterthur Life, before being acquired by AXA) attempted to break the annuity providers’ stranglehold on the retirement market by launching the flexible annuity.
This was an innovative product that provided income flexibility, a return on death, and the ability to ‘self-invest’. We were thwarted by HM Revenue & Customs (HMRC), on the grounds that the product was not an annuity. HMRC claimed it did not meet their previously unpublished annuity criteria of providing an income that was ‘safe, stable, regular and for life’.
Alternatives on offer
However, the flexible annuity, and the similar product launched by Equitable Life (remember them!) called the ‘managed annuity’, had provoked interest among advisers and prospective clients who were ‘annuity-averse’. So much so, the government took an interest. Along with a colleague, I was summoned to a meeting at Number 10 to meet with prime minister John Major’s special advisers.
Subsequent meetings at the Treasury foreshadowed the launch of income drawdown in 1995, and Winterthur Life was one of the first companies to offer a drawdown product. The rest, as they say, is history.
Income drawdown in various incarnations, and subject to varying tax and regulatory regimes, became a genuine alternative to annuity purchase for growing numbers over the next two decades. This was despite considerable resistance from Treasury officials, who for many years held entrenched views about the benefits of annuity purchase.
In 2010, in response to Treasury proposals for the introduction of flexible drawdown and changes to the capped drawdown regime, I estimated there were around 300,000 users of drawdown, and new drawdown cases in that year were likely to exceed 40,000.
Compare that with the post pension freedoms world. In three years from April 2015, the total of funds withdrawn using pension freedoms was £17.5 billion, according to HMRC data. More than 220,000 individuals took advantage of the new freedoms in the first quarter of 2018 alone. Pension freedoms have been a game changer.
Encouragingly, in its recent report on pension freedoms, the parliamentary work and pensions committee found ‘there is little evidence that people are being reckless with their savings. If anything, they are being overly conservative’.
It recommended ‘the government takes forward the Financial Conduct Authority’s (FCA) proposals to introduce default decumulation pathways. Any provider offering drawdown would be required by FCA rules to offer a default solution that targets their core customer group’.
The Pensions Regulator and the FCA have acknowledged concerns about consumers who enter drawdown without advice in their joint report published earlier this year. A recent AKG report, ‘Pension Freedoms 2018’, found the biggest cause for concern among consumers was the risk of running out of money in retirement.
There has been much academic work undertaken on safe withdrawal rates. For many years I have been a strong advocate of stochastic modelling techniques in this area. I believe managing drawdown successfully is about managing risk effectively.
I recently came across an excellent article on this subject, ‘The "Future" of Retirement Planning’, on The Retirement Café website. It looks at how stochastic modelling can help with the management of the four key risks of retirement planning: current wealth, future income, future expenses and expected longevity.
Only current wealth is fairly certain, and ‘the primary determinant of retirement cost is longevity’. I urge advisers interested in this area to read this and related articles on the website.
Income drawdown has come a long way. But there is still work to be done. The prize is huge: my own estimates suggest there is around £200 billion of funds in Sipps alone that have yet to be vested.
My hope is the government resists making further significant changes to this new regime, which has truly transformed retirement outcomes for many investors.
John Moret is principal of MoretoSIPPS