20th February 2015
Retirees should be defaulted into annuities to stop them stripping money from their pension and running out of cash in old age, says think-tank Centre for Policy Studies.
In a paper for the influential think-tank, pension expert Michael Johnson, said called for the government to provide default retirement solutions to prevent people misusing the pension freedoms that will give them access to their pension as cash.
In much the same way as workers are now auto-enrolled into pensions, at person aged 55 would have their pension pot defaulted into an inflation-linked pension – which Johnson calls ‘auto-protection’.
In fact this would be a way to automatically default people into a deferred annuity that would help them to provide an income for the rest of a their life rather than leave the pension open for large lump sums to be taken out.
Like the process for auto-enrolment, retirees would be able to opt out of the auto-protection – this is possible because an annuity, which is typically non-refundable, is deferred..
‘People approaching retirement need to be encouraged to purchase retirement income products that limit downside risks, notably longevity, investment and inflation risks that almost all of us are incapable of managing by ourselves,’ said Johnson.
In order to incentive individual to use the default option annuity, which have had acquired a bad reputation for being poor value, Johnson said savers who defer taking their pension for more than five years after their private pension age, which is currently 55, should be give tax breaks.
He believes deferred pensions could be provided free of any income tax as long as there was a cut in tax relief on contributions.
Johnson has also called for reform of the 25% tax-free lump sum that is currently allowed to be stripped from pensions.
‘By offering tax-free status on the first 25% of a pension pot, we actively discourage people securing a pension at the age of 55,’ he said. ‘This is daft, when the alternative is a pension 33% larger than otherwise, which would help mitigate the risk of running out of money in retirement.
‘In addition, as an incentive for long-term saving, it is wholly ineffective…Ideally the 25% tax-free lump sum should be scrapped…[or] given political sensitivities, access should first be pushed back until the age of 60 or 65.’