A new package of investment options will soon be automatically offered to anyone planning to start drawing on their pension without the help of a financial adviser. From next month all over-55s entering income drawdown will be given the option to invest their retirement savings in one of four packaged portfolios – known as investment pathways – that best match your circumstances.
With income drawdown, you take a monthly income from your pot while the rest stays invested, so it can carry on growing. Since the revolutionary pension freedoms were introduced three years ago, all savers have been allowed immediate access to every penny of their private pensions.
Previously, you had to purchase an annuity — an income for life policy — but now you can dip in and out of your personal pension as often as you like after you reach 55, with many opting for income drawdown.
More people are expected to take early retirement or to start drawing on their pension earlier than normal because of the coronavirus – perhaps because they’ve lost their job and need to plug the income gap. This means potentially more people will be needing to make important investment decisions this year.
How the pension fund is invested is crucial to ensuring it lasts as long as you need it to. The Financial Conduct Authority (FCA) has long been concerned about the number of people using pension freedoms without an adviser and potentially running out of money during retirement as a result.
The pathways — an FCA initiative — are primarily designed to ensure savers do not end up keeping large portions of their fund in cash over the long term. This risks your money missing out on valuable investment returns and having the fund’s real value eaten away over time by inflation. The pathways are designed to match one of four broad scenarios:
- I have no plans to touch my money in the next five years.
- I plan to use my money to set up a guaranteed income (annuity) within the next five years.
- I plan to start taking my money as a long-term income within the next five years.
- I plan to take out all my money within the next five years.
They also aim to ensure people engage with their investments when going into drawdown so they remain appropriate to their needs rather than making a snap decision. The package of funds offered for each category will depend on the approach taken by the platform or provider. Once in drawdown, the customer retains responsibility for purchasing their investments – including investment pathways funds.
How to invest
There’s no one-size-fits-all answer. What is universally agreed is that it is important to structure investments carefully to avoid running out of cash. This means remaining invested in equities to maintain the capital you are now drawing on. If you’re happy to choose your own portfolio then the pathways might not be needed — and there is no obligation to use them.
The pathways will also be offered to people who transfer funds already in drawdown to a new provider, who may be happy with their existing investment choices but are switching to a new platform for cheaper fees or better customer service and support. But even for those who have decided where to invest and how much income to take out, both of these decisions should be reviewed regularly.
Drawdown has very flexible features, which means that you can change what you invest in and how much you take. Should markets plummet (again) and your pension fund is depleted, you’ll need to review your investment choices and consider reducing the income you’re taking. If the fund is worth less but the withdrawal stays the same, your savings will run out faster. The upside is that as and when the markets eventually recover, your pension pot will also benefit, and you may be in a position to increase your income in the future.
A helping hand
Pension Wise offers free and impartial government guidance to people over 50 who have a personal or workplace pension and will cover investment pathways. The Money and Pensions Service will also be offering a pathways comparison tool.
However, what these four options won’t do, is help decide how much income to take and they also won’t replace the wider benefits of a personalised financial advice for those who need it. A regulated financial adviser can help construct a tailored portfolio and broadly predict how long your savings are likely to last.
It is not an exact science, but an adviser could help set sensible withdrawal levels, with an idea of how long the savings would last. An adviser would also contact you when reserves start to get low, allowing you time to perhaps reduce how much income you take. If anything in the wider economy changes, they can help make necessary adjustments. There are fees to pay, of course — it’s estimated that advice on a £250,000 pension pot at retirement would cost £3,000 — a small price to pay to make sure your money lasts you for the rest of your life.