Pension freedoms cost savers £2bn in lost returns

Savers cashing out their pension pots to take advantage of pension freedoms since 2015 are set to lose £2bn as a result, according to new research. The losses come from moving money from a pension where it was being invested for growth into a cash account paying little or no interest, according to the report from actuarial firm LCP. LCP used data from the FCA to extrapolate an estimation that the just over half a million people who have taken their pension pot in full since 2015 and put the money in a cash account will suffer a collective loss in returns of £2bn, assuming that they do not take action to move the money to somewhere where it will generate better returns. This is based on 555,000 people losing an average of £3,500 each. Figures from the Financial Conduct Authority (FCA) show that between April 2015 and March 2020, just over 1.7m people took their full pension pot out in cash. More detailed data from the regulator for the period 2018-2020 suggests that the average fully encashed pot was worth around £12,500. The FCA’s Retirement Outcomes Review found that 32% of customers who fully withdrew their pots put the majority of the money in an ISA, savings or current account to either drawdown or keep as a safety net. The majority of these would be cash accounts, as the FCA identify a separate category of 20% who invested the largest share in ‘capital growth’. Applying the 32% figure to the 1.7m who have taken cash out in full suggests that 555,000 people took cash from a pension and put it in a cash account or similar. Interest rates payable on cash accounts will vary, but many savers will be earning 0.5% or less on cash deposits. By contrast, money left in a pension and invested in a mix of stocks and bonds would yield an expected return of 4.4% based on official assumptions. Moving money from a pension into a cash ISA or similar product could therefore produce a loss in returns of around 3.9% per year. FCA data also shows that over three quarters of all full encashments are taken by those aged between 55 and 64, suggesting that the money may stay in a cash account for several years and then only then be used to support income in retirement. According to LCP, the problem of moving money from a pension where it was being invested for growth into a cash account paying little or no interest should be tackled by allowing savers aged 55+ to easily access their 25% tax-free lump sum whilst leaving the rest ‘behind’ still being invested in their pension. Laura Myers, partner and head of defined contribution at LCP, said: “Savers who withdraw their entire pension pot and move most of it into a cash account are at risk of seriously damaging their wealth. Interest rates on cash accounts are currently well below the rate of inflation, meaning money left in such accounts for the long-term will steadily erode in value. The attraction of tax-free cash is well understood but it should be much easier for savers to leave the rest of their money behind inside the pension where it will continue to be invested for growth until they need it”. The actuarial firm also called for more to be done to alert customers that they are facing negative real returns where money has already been cashed out and is sitting in a cash account. Steve Webb, partner at LCP and former Pensions Minister, said: “For those who have already used their freedom to take their pension pot in full, more needs to be done to alert them to the real losses they will suffer if they simply park their savings in a cash account. And we need to ‘de-couple’ the act of accessing tax-free cash from accessing the rest of your pension. Unless things change, hundreds of thousands more people could find they are not making the best use of their hard-earned savings.”

Pension freedoms cost savers £2bn in lost returns

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