1. Creating flexibility in pension planning
2. Some alternative strategies you may consider with your clients
3. The keys to investing in retirement with that all important eye on income
4. To see some of the product innovation in the marketplace
5. Discuss with clients some of the expectations of the new government pensions regime
Tutors on the panel are:
· Jan Holt, Business Development Team Manager, Just Retirement
· Vince Smith-Hughes, Head of Business Development, Prudential
Consumer attitudes to guarantees and flexibility in retirement
JAN HOLT: Well there’s been a huge amount of research since the initial announcement about
freedom and choice in pensions. So we’ve pulled all of that together, along with our own research,
and we’ve been able to identify that what people are saying they want is they want guarantees. So
they want certainty that income will be in place for the rest of their life. They do want flexible
access to capital sums as and when they need them. They want to be able to ensure that they can
pass benefits on to their families or beneficiaries as a legacy at some point, and they want inflation
proofing. And of course they want all of this without huge market risk.
So, ultimately, what the research told us is that clients would like to have their cake and eat it, but I
think there are strategies for certain types of client that can be put in place to them with most of
PRESENTER: And from your experience Vince, have you found those issues to be true out there
when you’ve been talking to advisers yourself?
VINCE SMITH-HUGHES: Very much so, Tony. So, our research has backed that up as well, a lot of
clients will of course like everything, but we’ve also found that people are prepared to be pragmatic
when they’re given the choices. So, for example, they might think a guarantee is less flexibility or
vice versa, depends on their own individual circumstances of course, and I would say a couple of
months down the line for the freedoms coming in what we have seen is people doing all sorts of
different things. So people are taking the cash, they’re going into drawdown, they’re buying
annuities - lots of choice for people now to decide what to do.
Pensions freedoms, responsibilities and the need for advice
PRESENTER: The issue though which may be most fundamental is the business of who controls the
pension. Did you find that people were willing to take control themselves, Jan, or were they happy
to as it were pass that on to a third party to look after?
JAN HOLT: You mean through an advice process?
JAN HOLT: I think by and large the need for advice is still very clear, because people, I think, with the
guidance that they’re being given now through Pension Wise or just through reading consumer press
are becoming more aware of some of the potential tripwires that they could face in retirement if
they haven’t got a proper and robust plan in place that is being reviewed. So, yes, there will always
be a group who will go off and do what they want because they’ve got a very clear idea of that. But
for those who are looking to create a plan that will take them right through retirement, then yes
generally speaking they will need help.
PRESENTER: Vince, we tend to see this as a ‘good thing’, in quotation marks, but have you found
that some people are actually almost frightened of this control that they have to have themselves?
VINCE SMITH-HUGHES: Yes, I think that’s probably a good way of putting it, Tony. Certainly, a lot of
the people that we talk to directly, so for example our own policyholders who haven’t traditionally
had an adviser, they’re perhaps ringing us and saying well we’d like to get our hands on the money.
But when they realise the full implications of it, particularly things like the taxation implications,
they’re often going away, and we know a lot of them are going to go and speak to advisers. So I
think that’s a real positive actually, people initially thinking perhaps well I can do this myself,
realising there’s a lot more to it, and then they’re going to go and see an adviser.
PRESENTER: So it’s not quite the government’s desire of wanting to make things completely simple,
under that level of simplicity is a degree of complexity if I may go that route, yes.
VINCE SMITH-HUGHES: Yes, well I think that’s a fair point then. Because of course you’ve got more
choice, more choice by definition means there is more complexity. So although it’s simple to go and
actually take the whole fund as cash for example, it doesn’t mean you should do and there’s lots of
other options to think about.
Short, medium and long-term retirement planning
PRESENTER: Jan, in the old days we used to speak in the fund world about the issue of inflation,
which mercifully went away, I mean galloping inflation in the old days, that is something that people
should really concentrate on when advisers are talking to their clients, do you believe, the issue of
inflation at some point over their retired lifetime may be coming back into play?
JAN HOLT: Absolutely. When you think about the potential longevity that people face then they will
have to factor in some kind of plan for inflation. It appears to be one of the things that people will
tend to treat as a lower priority, because of course the common goal is either maximising the
income or capital available today and the tendency is to worry about later later. But it is an
important factor. But it’s just one of many things that people need to consider.
PRESENTER: Okay. We talk about planning for retirement, but maybe now we’re talking about not
just one plan for retirement. Are we talking about in terms of this flexibility that there needs to be
perhaps a plan for the next five years, ten years and so on and so forth; is that what you mean by
JAN HOLT: Yes, in part, because I think there are two elements to this. So the first thing is that there
might not be just one retirement as it were; people might actually to choose to ease into retirement
over a series of years. So maybe initially they’re looking for a short-term plan, so maybe just
bridging between sort of full-time to part-time employment then to no employment. So flexibility in
that context, and then once they have sort of stopped earning completely, then it’s probably
flexibility about maybe some of the longer term goals and objectives that they have.
PRESENTER: Sure, things like health and so on and so, yes.
JAN HOLT: Yes, things like dealing with legacy, leaving a legacy. Things like what if there’s a need for
long-term care at some future point.
Communicating retirement plans to consumers
PRESENTER: It sounds, Vince, like this modelling for retirement is not one of those easy things that
you can do in ten minutes on the back of an envelope.
VINCE SMITH-HUGHES: No, I agree, Tony. I mean it can be complicated. What I think there is,
there’s an awful lot of good modellers out there now, so I know for example our own retirement
modeller has been really popular since it was launched and people are looking for ideas as to what
effect the income has on sort of like the fund value over a given period of time. They’re looking to
sort of try and ascertain what sort of income they can take and perhaps leave the fund sort of static
so it’s not decreasing. All sorts of types of different things and they’re much more sophisticated
these tools than they were, so there’s plenty of things out there that advisers can use to help them
make the right decision for the client.
PRESENTER: When you say sophisticated, that in a sense sends a little worry down the back of my
brain, because that means it’s complex and Warren Buffett won’t invest in something that he
doesn’t understand as such. Should advisers be keen to tell their clients and potential clients that
these things are simple and easy to use, or do you believe that they should in a sense put the
frighteners on them a bit?
VINCE SMITH-HUGHES: I’m not sure it’s a case of putting the frighteners on them. I think perhaps
it’s important they really understand though what they’re getting into. So, for example, if you’ve got
a client who’s taking an unsustainable level of income from drawdown, it’s absolutely critical both
for the client and for the adviser that the client understands that and there is a good chance that
they may perhaps run out of money. So it’s absolutely important they do that. But what a lot of the
modellers do, they’re not just sort of like providing numbers, they’re also providing tables and
charts, and sometimes that’s a little bit easier to understand for all of us.
PRESENTER: Sure. Do you advise advisers to actually turn the screen to the client to show them
how the modeller is working things out?
VINCE SMITH-HUGHES: Absolutely, I think a picture paints a thousand words and I think with a lot of
these modellers it can really help for the client to see and understand it.
Maslow’s hierarchy of needs – its implications for retirement planning
PRESENTER: Okay. We have a chart about minimum income requirements in retirement a little
later, but you have something that’s based on Maslow’s theory which is our slide number A as it
were. Let’s have a look at that and see what it means to somebody who is coming up into
JAN HOLT: Okay. So this is looking at how you would use I guess proven psychological theory in the
retirement planning process. So Maslow, if you recall, said that man is motivated by unmet needs.
And so he had those needs in his hierarchy, in the pyramid, but he did actually group them into two
categories. So what he called sort of the deficiency needs, so things like safety, survival food and
shelter and so on, and then what he called the growth need, so where we get to things like selfesteem and self-actualisation. Now what he said was that you can’t begin to address those higher order needs until you’ve taken care of the basic or deficiency needs.
So, if you apply exactly the same theory to retirement planning, then what we can do is we can build
a pyramid still, but with some different categories in here. So we can look immediately at
addressing concerns such as debts or arrears and let’s make sure that we get the client out of
trouble, if you like, and then we start to look at the income and we can establish for each client what
is their personal minimum income requirements, so their essential level of spending and then maybe
a layer of discretionary spending on top of that, and then I think we can start to assume that once
we’ve locked in the income to secure all of that we can assume that they have capacity for loss now
and we can start to deploy risk.
So, essentially, this model says that the more income and capital that is available to a client, the
higher their capacity for loss is, and of course we then start to move them up the hierarchy to things
like gifting, dreams, the bucket list, paying the bills of the bucket list if you like. So it’s exactly the
same kind of idea but just presented differently, and I think what’s key about this, this is not a
sophisticated tool, it’s a pyramid on a piece of paper, but it gets that conversation going and it
engages the client in a way that they understand and they start to think about their priorities and
the importance of creating a guaranteed layer of income to make sure that the bills are always paid
and they sleep easy at night.
PRESENTER: I love the idea, Jan, that you’ve called them very simple categories, the just in case
fund, which we think about as the rainy day money or the freedom income, you know, the bits you
can put on the 4.30 at Kempton Park maybe. Indeed and gifts and dreams, that ultimate bucket list.
But you brought in interestingly enough the capacity for risk, all right. So again that involves quite a
complex set of decisions for people coming up to retirement to make, and it’s not just about income,
is it Vince?
VINCE SMITH-HUGHES: No, absolutely, and I can totally agree with Jan that it’s very sensible for a lot
of people to secure their income, their guarantee of income to sort of meet their standard of living,
that seems entirely sensible. The only difficulty with that is I guess a couple of things. First of all a
lot of people haven’t got a big enough fund to actually do anything other than sort of like perhaps
just one thing. So, for example, if you look at all the drawdown and annuities purchased in Q4 of last
year, the average purchase price was just over £46,000. So it’s still not a huge sum.
PRESENTER: Right, okay, that’s gone up, it used to be £30,000.
VINCE SMITH-HUGHES: It has gone up, but I mean I think actually that’s because a lot of people with
the lower funds were probably taken out under the triviality rules available last year, so they were
taking it out as a lump sum. And of course that will continue to happen now you’ve got the
freedoms in place. The other thing that I think is important to also bear in mind is with the new
death benefit flexibility that’s in place with pensions, a lot of people are looking at their overall funds
now and saying well actually I’ll take income from non-pension assets. So perhaps I’ll take it from
my ISA funds or other investments I’ve got and I’ll leave the pensions until later on in my retired life,
because whatever part of the fund I haven’t used can easily be used as a legacy for other people.
PRESENTER: Isn’t that interesting the concept of a multiplicity of income, yes, excellent. Right, okay,
what are their concerns, principally, when people come to address these issues and what should an
adviser be addressing with their clients, Jan?
JAN HOLT: Well, coming back to the research again, the concerns that people were expressing were
very much in line with, I guess, what they said they wanted. So it was concern about if they started
to use their pension and then died, then would the fund die with them or what would happen there,
that they were going to get value out of that pension pot essentially. They were concerned about
tax, you know, not paying too much of that unnecessarily, and then interestingly for those who were
considering cashing their funds they were concerned about the investment decisions that they were
going to have to make. So where could we put this, that, would achieve what we want to.
PRESENTER: So they would take their money out of the pension fund into cash and then think about
investing it rather than leaving it within their fund?
JAN HOLT: I think the concern of the investment decision might have stopped them doing that. So
it’s what they said. So they said even though they knew they could cash in, then, you know, what
would they do with that money? They were concerned about making the retirement resources last
throughout retirement, and finally they were looking for simple structures in terms of costs and
charges associated with what they were doing.
PRESENTER: It’s interesting, Vince, that we have a whole actuarial industry out there, which
somehow has to come down to one man on his own having retired from the Ford Motor Company
making the decision about how his money’s going to last for the rest of his lifetime. Do you think
people are capable of making that longevity risk decision themselves?
VINCE SMITH-HUGHES: I suspect a lot of people aren’t - which is why they do need to go and see an
adviser. I mean we mentioned retirement modellers earlier, on some of the modellers for example
it also gives life expectancy in there as well. So I think that’s quite important, because a lot of
advisers have said to me that by having it on a modeller it actually prompts the conversation with
the client, and sometimes it’s quite awkward to bring that sort of conversation up. But it’s not easy
to understand and it is important though that it is actually considered in the advice process.
PRESENTER: In one of the newspapers, recently, as we’re halfway through the year, they brought up
the idea of what they called horrendous fees and charges for people involved in these sorts of
pension decisions. Did that come up in your research that people were worried about the amount of
money they would effectively lose in fees and charges?
JAN HOLT: I think initially the research was saying that people wanted simple and low cost solutions;
however, the challenge that people have had and what’s currently being reported in the media is
around when they’re trying to access their pensions. So sometimes if the existing provider can’t
facilitate that then the option then has to be to transfer it away, which will require advice and then
there’s a cost associated with that. There have been potentially early exit penalties. So the Treasury
has announced this week that they’re actually consulting on that. So whether they should put a cap
on any penalties for people who are trying to move after the age of 55, and also of course whether
there’s anything that can be done to make this whole process a lot simpler for people, because it
kind of flies in the face of what the pension freedoms were aiming to do.
PRESENTER: Exactly, right, okay, good. We mentioned longevity risk, how do you advise advisers to
approach the issue of risk with their clients, Vince?
VINCE SMITH-HUGHES: I think it’s all about what the individual client is looking to do. So, for
example, I’ve spoken to advisers when they’ve said I’ve got clients who have actually said they’d like
to run their money out over a ten year period, because they’ve got other income which they can live
on in that period in time. So effectively they’re saying I want to make the most of this fund while
I’ve got it. And as I mentioned earlier I spoke to other advisers where they’ve said I’ve got clients
where they’re looking to leave as much as possible in the pension fund to pass on as a legacy to their
children. So it’s very much driven by the clients’ individual desires.
Again, as we mentioned earlier, I think the modelling tools that are available now can help advisers
to really get to grips with these sort of situations and show the clients the impact of doing different
things. Of course, you’re going to have to also face the fact that a lot of people in the position were
going to need to take an income and need to take the maximum guaranteed amount of income from
their pension fund, and of course then you are looking at things like annuities, which they’ll need to
find the best annuity on the market for.
PRESENTER: Sure, okay, and it’s important that people understand that they should shop around for
those annuities, we have to say that.
VINCE SMITH-HUGHES: Absolutely!
PRESENTER: But it is blatantly obvious because I still come across even on what I’ve referred to as
the dinner party circuit as those people who don’t know they have that option.
VINCE SMITH-HUGHES: That’s right and we touched upon sort of mixing and matching between
different solutions a while ago and yes that might be for example someone buying an annuity and
going into drawdown for the rest. Well if they can secure their income the income may need to sort
of meet their lifestyle requirements on the cheapest possible basis – i.e. they’re spending the least
amount of their fund – that allows them to have the maximum possible in the drawdown fund to use
as and when they need it.
Understanding the complexity of the annuity market and the open market option
PRESENTER: Sure, is it simple though? Is it generally that people want the highest amount of
income from their pension pot and it’s as simple as that?
JAN HOLT: No, I don’t think so. Particularly when you look at the concerns that they had, because to
have the highest amount of income from a pension pot through an annuity means that you don’t
have any death benefits, you don’t have any protection against inflation and of course they were
other things that people were concerned about. So for most people I think what advisers will do is
present a series of options. So here is the baseline level of income with no frills, but then we can
start to build in different types of protection. So guarantee periods on annuities, dependants’
pensions or value protection and compare and contrast the cost of those compared to what
potential benefits they deliver and then ultimately you end up with something that the client is
comfortable with and helps meet those concerns.
PRESENTER: So for almost everybody you seem to be saying there is something of a mix and match
solution, is that fair Vince?
VINCE SMITH-HUGHES: I think for a lot of people the only thing I would say is that some people
won’t have a big enough fund to go for that mix and match solution. One quite sensible thing I think
to do though is to say well why not obtain the best possible annuity rate in the market for somebody
and then put it into one of the modelling tools and actually see what sort of risks the client needs to
take to achieve a high level of income from it. And then at least you’re presenting the client with
this is a guaranteed scenario, this is a scenario which has got more flexibility, but of course you can
see the risk that’s being taken for that.
JAN HOLT: And the other thing that modelling tools can do, if you move from a basic cash flow
model onto a stochastic modelling tool, which will actually model the probability of certain
outcomes, then it helps the adviser to optimise the solution for the client in terms of what’s that
right blend of guarantees and flexibility that helps them meet their needs for sustainability of
income combined with legacy or future capital for care costs.
PRESENTER: Okay, yes, the stochastic model always worries me. Go on, explain that in simple
JAN HOLT: Okay, so a cash flow is going to look forward using set assumptions and it will assume of
course that if you assume X amount for inflation and for growth on investments then that happens
every single year. With a stochastic model then sitting sort of underneath the bit that the client sees
is a whole scenario generator that is looking at the what ifs and what if this happened and what if
that happened, but what gets presented then, the output if you like is probability based. So it’s a lot
simpler than for the client to see well okay this is telling me that if I’ve got this split of investments in
these types of assets then there’s an 80% chance of sustaining income until I’m 95, for example. So
it’s a slightly different approach.
PRESENTER: Take me back to annuities and the range of annuities now, because it’s not just one
simple annuity as it used to be in the old days, there’s a whole set of things that need to be thought
about in terms of annuities, and the idea that an annuity may not be for life now, is that fair Vince?
VINCE SMITH-HUGHES: That is fair, Tony. I mean, as Jan said, you’ve got guarantee annuities which
have got lots of different features, so dependants’ benefits, terms that they’re guaranteed for.
You’ve also got things like fixed term annuities, which are actually drawdown arrangements,
effectively, but they pay a guaranteed level of income for a set period of time. And then of course
you’ve got like drawdown plans where they may have different features as well. So they may have
guarantees included within it or they may have a mechanism to smooth out the investment returns.
So there’s lots of different retirement choices out there and going back to one of your previous
questions, Tony, about mixing and matching, of course if you are mixing and matching through an
independent adviser, they’re able to find the best annuity rate for you and it may very well be that
the actual drawdown plan is with a different provider, which is then suitable for that client for that
part of their portfolio.
The recycling rules for pension cash
PRESENTER: Okay. There are still things that you have to be careful of as an adviser, are there not,
such as the recycling rules, Vince. Explain what those are.
VINCE SMITH-HUGHES: Absolutely. Well there’s two things here, Tony, now, so slightly more
complicated than it was, but your first thing is you’ve got the money purchase annual allowance.
Now what that means is if you’re using the new freedom, so say for example you’re taking income
from a flexi-access drawdown or you’re taking an uncrystallised fund pension lump sum, what that
means is your annual allowance will be restricted to £10,000 going forward. So it’s £40,000 for most
people, it’s £10,000 going forward, because clearly what the Treasury don’t want is people taking
money out of their pensions and then putting it back in again.
There is also the tax-free cash recycling rule, and you’ve got to be careful with this if you’re taking
tax-free cash of more than £7,500, and that’s actually a fair bit of a reduction from how it was
before. So if you’re taking tax-free cash of more than £7,500 and there’s a few other caveats as well,
but then you’re paying money back into pension schemes you’ve got to be very careful you don’t
trigger the tax-free cash recycling rule, otherwise you could end up with an unauthorised pension
charge, which you really don’t want to do.
PRESENTER: Okay. Are there any other specific rules that people need to be aware of when they’re
coming to create these mix and match solutions?
VINCE SMITH-HUGHES: I think it’s just a case of making sure what’s appropriate for the individual
client. So there’s lots of different choices. I guess the only thing is that you need to be a little bit
careful on is the fiscal process of perhaps transferring the money to two different providers. So if
you’ve got one pension pot and you’re saying well I’m going to buy a drawdown plan with provider A
and an annuity with provider B, you’ve just got to be very careful as to how you actually split it,
because the process could be slightly more complicated than you might think.
DWP rules on pension cash and income related benefits
PRESENTER: Okay, Jan, have you anything to add on that front?
JAN HOLT: Not on that particular point, but there’s one other minor consideration that advisers
should probably have in the back of their minds, if they are willing to work with clients who want to
cash everything in, then they need to be careful about the DWP’s view on what then happens if that
client has a need for income related benefits.
PRESENTER: Okay, that’s the deprivation issues, is that?
JAN HOLT: Well potentially it’s the assessment of pensions within that process, and what the DWP
has said, and they’ve put a very simple factsheet out about this, and they’ve said that for those over
qualifying age for pension credit then if the pension has not been touched then it will be assessed as
if it’s providing notional income, and they’ll use the level of income that the client could have had if
they bought an annuity with that fund. If they are taking income and that’s higher than what the
notional income figure would have been then they’ll use the higher figure. If they’re taking less than
the annuity level of income, then they’ll assume they’re having income at the same level as an
annuity. This is where deprivation comes in, if of course they’ve taken that cash and either spent it
or transferred it or gifted it away, then potentially they could be assessed as if they’ve still got that
capital. So that’s just a minor point that people need to watch out for.
PRESENTER: So as we work our way up this mountainside there are lots of crevices and cliffs to fall
over if you’re not careful.
JAN HOLT: Well there are really.
PRESENTER: Perhaps what you need an adviser for isn’t it to help you with those things?
JAN HOLT: You do, because it would be a shame in terms of people trying to meet their short-term
needs, lose sight of these longer term issues.