This year’s update on our need for retirement income if we are to have a basic , moderate or comfortable lifestyle is really valuable.
The headline finding is that the cost of living crisis adds up to a 20% greater need for income among those only just getting by in retirement. This means that this year (when the triple lock isn’t applying – they are taking a 15% fall in living standards. Is it any wonder people cannot afford to feed their gas and electricity meters?
But startling and worrying as this news is, it is more of interest to the DWP than the pensions industry which must focus on helping people use their pots and pensions to make up the shortfall between the state pension , the minimum, moderate and comfortable standards of living.
And I’m pleased to see the PLSA really focussing on this challenge. We focus on single people and couples The key finding is that it’s those who have least in retirement who are most impacted by the cost of living crisis but that those looking to retire moderately or comfortably will have to find at least 10% more from private income than last year.
It would be churlish of me to blame the PLSA for any deficiency of a report that is essentially right, but in embracing an upbeat message on the cost of buying pension with pot via an annuity, it is giving off some mixed messages. This is inevitable with a subject as typical as “turning pots to pensions”, it is not for nothing that it has been described as the nastiest hardest problem in finance.
Funding for a DC pension is likely shooting at a moving target
Firstly, there’s a quoted annuity rate of £6,200pa for each £100,000 saved. A call to Mark Ormston at Retirement Line gave me a headline rate today for a 65 year old of £7,200 level and £5,300 escalating at 3%.
£6,200 looks finger in the air and has already got some organisations excited. Here’s the newly ensconced Becky O’Connor – speaking for Pension Bee
“Plenty of people will take heart from these figures, which show you don’t have to be a millionaire in retirement to enjoy a decent standard of living. On the other hand, many will wince at the idea of trying to build a £328,000 pension pot to achieve it. For all, these figures offer a useful indicator of what to aim for.”
That’s fine but State Street pre-annuity plan was down 37% for its last reported factsheet (Q3 2022). If you are aiming for an annuity – you may find yourself with funds so depleted that the upturn in annuity rates leaves you worse off!
You may have read the Australian blog likening the DC journey to a trip on Wombat Airlines. It shows that the price of getting to your retirement destination is determined mid-flight or when you get off the plane – attempts to pre-fund your retirement lifestyle are as much associated with the cost of turning pot to pension as salary to pot.
What we do know is that for people close to their retirement destination, the point where they stop or reduce earning and start spending is beset with uncertainty. Not only do we not know when the date will be but we have no idea of the conversion rate we use to turn pot to a lifetime income. Pre-retirement funds are a lottery.
£6,200 for a £100,000 pot – £7,200 for a level income or £5,300 for a 3% escalating income? What price full inflation protection?
That £7,200 pa annuity won’t ever go up – this year it would have lost over £700 pa of its value due to inflation. Even a £5,300 pa annuity would have lost more than 7% of its value. If I could get a quote for a “triple lock” pension , I doubt that I could get an initial income much above £3,500 pa. For most people, it simply isn’t affordable to provide yourself with a proper wage in retirement using a gilts backed guaranteed pension bought on the commercial market.
Protecting yourself against the impact of inflation means being invested in real assets, things that give you growth in income over time.
A moving target
We need to think about a 30 year retirement in terms of inflation protected income steams not just for the state pension but for private income too. Occupational schemes give up to 5% (generally 2.5%) inflation protection – unless you are in a public sector scheme when you get full inflation protection.
Collective DB pensions have been funded at 25% of salary throughout the last two decades just to get to a point that they can purchase a bulk annuity to meet CPI pensions capped at 2.5% or 5%). The economics of scale suggest that to provide equivalent individual provision means a lot more funding than that. It is simply not realistic to value future income streams by way of annuities.
Suggesting that buying an annuity to meet future liabilities is not just the beyond the means of most savers . it is solving a hard problem very inefficiently. And what is more , the annuity rate is such a moving target that the PLSA could have picked just about any number between £3000 pa to the £7200 level annuity rate as the price to secure private income.
The whole business of funding for and purchasing annuities is out of the question but all for a handful of savers who have the luxury of being able to afford guarantees.
For the rest of the savers targeting a moderate or comfortable retirement income, more needs to be done.