Up until this year, if you were over the age of 55 and thinking of retiring, the options you had with your pension were limited. You were allowed to take a certain percentage as a lump sum usually (depending upon your policy), but otherwise you were limited to taking out an annuity. An annuity is simply a way of converting your pension pot into an income for life. People were free to choose where they bought their annuity from, but many were unaware and tied themselves in with their pension provider's annuity product, which was almost always not the best option for the vast majority of people.
However, this year saw one of the biggest revolutions that the pensions industry has seen in years with the introduction of the government's pension freedoms. Now, people over the age of 55 are free to do whatever they like with their pension pot, whether that be invest it in property, ISAs, annuities or simply put it in a savings account. However, research that has been published this week by the SMF (Social Market Foundation) has indicated that countries such as the USA and Australia may be showing warning signs of the potential downsides of pension freedoms.
Their report, which is called 'Golden Years? What freedom and choice will mean for UK pensioners' says that statistics show that few pensioners in America and Australia are choosing to invest their money in products like annuities that provide a guaranteed income for life. The report finds that there are three types of personalities that are common amongst retirees:
- The Cautious Australian - These are very cautious savers and like to preserve their pension pots capital and reduce it by less than 1% per year.
- The Quick Spending Australian - These are people who consume their pension funds quickly, with nearly half of them running out of funds by the time they are 75.
- Typical Americans - These sit between the Cautious Australian and the Quick Spending Australian and consume their pension savings at a reasonably quick rate of 8% per year.
Pensions freedoms are in their infancy in the UK so it is too early to say how most people will approach their pension funds. If UK pensioners tend to go down the more cautious route, it will signal that pension freedoms have been a success and will ensure that there is a minimal impact on the UK's benefit system. However, if the tendency is for people to quickly spend their pension pots, this could place an extreme burden on the benefit system and plunge the UK into another financial crisis.
The author of the report, Nigel Keohane of the Social Market Foundation says: "Pension freedom may be new to the UK but such approaches have been well tried and tested elsewhere. Our research into the real-life experiences in Australia and the USA provides evidence on the range of long-term risks facing retirees and the state, whether that is exhausting a pension pot early, a low standard of living in later life or taxpayers picking up the bill for more means-tested benefits."
The foundation recommends that early warning systems are put into place by the government to monitor retirement decision trends and ensure that the government can cope with the long term impact of these.