Pensions freedoms under the microscope
The FCA published its Retirement Outcomes Review in July last year. This review remains an ongoing study of the behaviours being exercised under freedom options for those reaching retirement from age 55. The highlights were as follows:
- Early access becoming the norm. 72% were under age 65.
- Over half of those accessing their pots fully withdrew their pension pots.
- Drawdown is twice as popular compared to buying an annuity.
- Around a third entering drawdown didn’t take advice.
As of April 2018, minimum pension contributions under auto enrolment increase, this will happen again in April 2019. Employee pension funds could possibly grow to reasonable sized pots of money.
Will employees have enough understanding of the options when accessing their pension funds age 55 onwards? One particular danger is employees making poor decisions when accessing their pension funds, in particular when it comes to full withdrawal.
Do you know how much tax would be paid on a full withdrawal of pension funds?
Take a look at the two examples below. Two colleagues, aged 56 with P60 earnings of £30,000 and a pension fund of £40,000. One takes full withdrawal of the whole pension fund and the other takes the fund as an income over two tax years.
Employee 1 - Fully withdrawn pension fund
Employee 2 - Drawdown spread over two tax years
In the drawdown example, the Net withdrawal taken over two years is £34,000, saving this individual £2,730 in tax compared to their full withdrawal colleague.
Whilst personal circumstances will ultimately be the driver of behaviour when deciding whether or not to access a pension fund, having the facts and information to be able to make a good decision is vitally important.
Tricks of the trade
As the above examples illustrate, unless employees know how to spread withdrawing their pension fund over different tax years, they could inadvertently pay more tax than is necessary. Learning about the best way to withdraw the pension fund is achieved by career long engagement with workplace pensions. Pensions are complicated. Staff value learning the ‘tricks of the trade’ when it comes to decisions on how to accumulate a pension pot and then how to make the most of it.
The impact of poor decisions being made by individuals is that the Government may curtail the current freedoms that exist for the rest of us reaching retirement. It is in the interests of everyone to be engaged with making good choices when it comes to financial decisions. Employers who support financial education play an important role in influencing good outcomes for employees. Employees are likely to become less concerned about their finances and are potentially more engaged at work, plus help keep pension freedoms open to all!