Eat, drink and be merry for tomorrow we die... Oops, maybe not!
It’s difficult to understand what the current government’s policy to deal with the ageing UK population is supposed to be. For most of the nineties and the noughties, international bodies were warning all governments that the increasing longevity of the population in the developed world was going to create a huge problem for OECD countries by the middle of the 21st century. Governments were warned that their economies would not be able to withstand the pressure of coping with an ever-increasing proportion of their populations being retirees. In response, all sides of the political spectrum in the UK recognised the severity of the issue and began to focus on how to manage the problem.
Increasing the state retirement age and re-organising the basic state pension were obvious changes and have been pushed through. However, these were only partial solutions to the problem and there was general agreement amongst all parties that, if a crisis was to be avoided, then the onus must be put on workers themselves to provide more for their own retirement. Hence the introduction of auto-enrolment, defaulting employees into pension schemes so that the vast majority of the workers in the country would have private savings to supplement their state pension. The primary aims of introducing fairness, simplicity and above all, personal responsibility were covered by the new reforms.
Since then, the Coalition has embarked on a series of changes in the long-term savings and investments area which seem to contradict the previous strategy. Faced with a lot of complaints about the poor value of annuities, the Coalition decided against reforming the market and instead opted to abolish the need for people to purchase them at all, thereby removing the very ‘insurance against longevity’ that was needed to ensure the strain put on public finances by an ageing population would not become over-whelming. Thus, driven by a populist approach predicated on the principle that people know best how to manage their own money, the at-retirement market was opened up to allow people full access to their pension savings. They ignored the commensurate risk that retirees would squander those savings in the early years of their retirement and revert to dependence upon the state in their later years, the very years when earning would become difficult if not impossible for health reasons.
That was the big surprise in the 2014 budget, primed with its effect due to come into force just six weeks before the next general election. Now in 2015, the government has carried out another couple of manoeuvres which appear to operate directly against the overall policy of ensuring that people take more responsibility for providing for their own old-age.
The first move is to allow existing annuitants to trade in their annuities for a lump sum to a third party, essentially creating a market of second-hand annuities. The need to see how exactly this market emerges has restricted comment from the media and industry on the approach but it is certain that there is a big risk for annuitants who decide to realise their current income as a lump sum. Given increasing longevity the decision whether to surrender one’s annuity for a cash lump sum is obviously a difficult one and one which most individuals are not particularly well equipped to make.
Obviously, the would-be purchaser will not buy the annuity without a reasonable estimation that the annuitant will live for long enough for the money outlaid to be recouped and to make a sufficient margin on it. As such, that means that from the original pot, a slice has been taken by the original life provider that manufactured the product as well as possibly an adviser who advised on the deal. Now that identical pot will naturally have a further slice taken from it by the second hand annuity purchaser and possibly a slice will also go to an adviser, if one was used to effect the arrangement. It’s hard to see how the annuitant can ultimately be the winner in all of this, except in those rare tragic cases where the need for a lump sum is so overwhelming that it trumps all other needs. However the lure of instant cash lump sums may trump long-sightedness, especially with the general anti-annuity prejudice that is prevalent throughout the financial press.
The other big move in this year’s budget, that was a bit lost behind the headline-grabbing abolition of tax on savings interest, was the lowering of the Life Time Allowance (LTA) for pensions; the LTA being the total amount that one is allowed accumulate across one’s lifetime for pension purposes. Of course, some limit is needed to prevent pensions being misused by the ultra-high net worth individuals. But a limit of £1million is far too low to allow people to provide themselves with a decent income in retirement, given that the average pensioner can expect to live for 20 years after finishing work.
The motivation behind this was hard to fathom. When LTA’s were originally introduced in 2006, the limit was £1.5 million and we were assured that it would rise over the next 5 years to a limit of £2 million. The idea was to encourage saving by allowing people to amass significant savings for their old age, without allowing the system to be abused by the super-rich. As such, it was reasonable for people to defer current pleasures in the knowledge that they were building a comfortable future for themselves.
Unfortunately, when people took the government at their word, the result was a savings pile that has appeared too lucrative for the politicians to resist tapping into when they are struggling to balance their budget. As a result, the lowering of the Life Time Allowance has become a regular budget event. It is a specifically bad move for those saving in Defined Contribution schemes as an LTA of £1million would penalise anyone trying to save for a pension of over £25,000 per annum – a relatively modest sum.
Some of these changes are arguably positive moves for a subset of retirees. But the cumulative effect of so many changes is undeniably bad. It has meant that the pension policy area has been one of the most unstable policy areas over the lifetime of this government and this instability is anathema to good long-term financial planning.
Whilst the government was formed with a policy of ‘nudging’ to encourage people to do the right thing, the nudges are now positively contradictory. On the one-hand, auto-enrolment is pushing people into the idea of saving and making them consider the need to provide for themselves in their old age. On the other hand, the constant trumpeting of the new ‘freedoms’ to take your money as a lump sum at retirement is nudging people towards rewarding themselves with big spending at the end of their working career and stopping them from thinking about the need to husband their resources over a much longer period.
The result is becoming chaotic. The public are being told that they are being ripped off by the financial services sector by government, regulators and the financial press. Without planning it, this is encouraging a more consumerist outlook on finances than was hitherto imagined. For all the failings of the annuity providers, they did provide the security against longevity that is so treasured by the relatively silent group of consumers who have outlived the average lifetime of their peers.
Even financial advisers are finding it difficult to decide what to advise people to do when the landscape keeps changing so dramatically; today’s good advice is rapidly becoming tomorrow’s poor advice with the attendant risk of being perceived as having coerced people into doing the wrong thing with their money. Every move by the government to ‘free’ people from the chains of financial products that pay out for the duration of their lifespan directly undermines the goals of making them take responsibility for their own future by auto-enrolling them into financial savings products.
We have ended up with a contradictory mess; a pantomime in which the life and pension providers are being cast as the bad guys whom the pensioner needs to be protected from. The end result of this can only be to encourage more and more people to realise their savings as a lump sum, despite the tax penalties in doing so. As a result, a lot more people will have run through their savings at quite an early stage in their retirement; this effect will be compounded by the fact that survey after survey shows that the average person consistently and substantially underestimates their own individual longevity.
If the government keeps tweaking the rules and regulations around taxation, savings and investments then it supports an idea of short-term thinking when it comes to finances. This is the very last thing we should be giving the increasing lifespan of the population and the shrinking workforce, which will be left trying to support them. Perhaps this is just a temporary move given that the last two budgets were focused on the election and the nudging of people to save across their working life and to use those savings to provide for themselves throughout their retirement will resume. Unfortunately, even if that is the case, it would mean that a new raft of rules and regulations are planned for early in the new government’s term which would destabilise the ability to plan even further.
What is needed is a return to a more bi-partisan approach to pensions and long-term savings and to take the area completely out of the political arena, which by is nature is ‘short-termist’. If the government finds it too difficult to resist tweaking pension and long term savings regulations to please the public then perhaps it could be an area reserved for the Upper House, in any future constitutional changes.
Given that the House of Lords is generally less partisan than the House of Commons and is immune from the pressures that arise from the need to get re-elected, taking the long-term savings policies out of the remit of the day-to-day policy making of the government would give the opportunity for a more far-sighted and consistent policy to be put in place. This policy could be cross-party and therefore less vulnerable to the changing winds that blow across the political arena when elections are in the offing and a policy that would therefore provide the stability that people need when it comes to long-term planning.
Without some solution, the contradictions inherent in our approach will completely undermine our response to the longevity issue raised by the OECD, and governments in the mid-century will wonder why we squandered such an opportunity to provide a sustainable solution to the good ‘problem’ we have of people living longer.
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