Trust-based and contract defined contribution (DC) pension schemes will need to reconsider the investment options offered and the default investment funds used in light of changes announced in the 2014 Budget. According to Mercer, many DC members will be invested in strategies targeting the purchase of an annuity at retirement. With requirements to purchase an annuity ending from 6 April 2015, existing “life-styling” strategies may now be inappropriate to members’ needs.
According to Brian Henderson, Head of Mercer’s DC & Savings team, “We believe that many people will still buy annuities to provide certainty of income without the need to maintain an investment portfolio in retirement. However, giving consumers more choice on retirement will challenge those who govern DC schemes to consider solutions that meet a wider range of consumers’ needs.
“We are already seeing DC governing boards question the suitability of their investment arrangements in light of the Budget announcement. A key consideration is how to accommodate the fact that not all of the 80% or so of members who invest in a scheme’s default funds will require an annuity when they retire. For example, some will wish to remain invested after their official retirement age and make periodic withdrawals from their pension capital, while others may prefer to withdraw all of their funds as cash."
Mr Henderson added: “Future retirees are likely to have a pattern of expenditure that is ‘U’ shaped. In the earlier years of retirement, expenditure remain high through travel and recreation, then diminishes with age, but will be later replaced by less discretionary items such as medical expenses and long-term care. Experience in other countries, such as Australia; suggest that this pattern will trigger demand for pension schemes that can provide both investment growth and capital stability during retirement. In other words, the most successful DC schemes will be those that not only take people to retirement but have facilities to help members through retirement.”
Commenting on the overall changes, Mr Henderson said, “Giving members more control over how their pension pots are taken will surely enhance the attractiveness of pension schemes and, as a result, boost overall retirement savings. However, these proposals come at a time when other countries are looking at ways to persuade more retirees to purchase annuities in order to avoid running out of funds during their retirement. It’s therefore critical that the ‘right to guidance’ initiative proposed by Government is robust enough to help prevent members taking decisions that they live to regret.”
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