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Nest hatches 'drawdown' pension scheme for the masses

The National Employment Savings Trust (Nest) outlines a policy that would allow pensioners to access cash, invest their money and provide a guaranteed income in later life.

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by Michelle McGagh on Jun 30, 2015 at 09:00

Government-backed pension scheme Nest is planning a retirement product that would allow people to access cash, invest their money and provide a guaranteed income in later life.

The National Employment Savings Trust (Nest) already offers a pension scheme for savers and it is now looking at a plan to help those who have reached retirement and are overwhelmed by the choices on offer.

The new pension 'freedom' reforms have brought more choice to retirees but also more confusion as pensioners struggle to make the right decision for their money. Most retirees are expected to shun annuities, which pay a guaranteed income for life, but have a history of being poor value.

Instead they are expected to go into drawdown policies, where pensions remain invested and income and lump sums can be taken. However, there are fears this means many older people will run out of money as they deplete their savings too quickly.

After calls for the government to step in with a solution, Nest has published its ‘blueprint for member decumulation’ – ‘decumulation’ being the jargon word for using up pension funds, ie, the opposite of 'accumulation' where you save and build up your pension pot.

The Nest blueprint sets out a three-stage plan for its members’ money, with savers automatically defaulted into the retirement strategy if they don’t make their own arrangements.

Stage 1: Income drawdown fund

Although retirees can now get their hands on their entire pension pot, research by Nest found most people want their pension to generate an income in retirement.

A total of 64% of those surveyed by Nest said their preference for a retirement product was ‘income that grows in line with inflation’.

To provide this Nest said it would invest ‘around 90% of the member’s pot…in an income-generating portfolio’ at age 65, or whatever age they retire.

‘The primary goal of the income drawdown fund would be to provide a very high probability of an escalating income up to the age of 85,’ said Nest in its proposal.

However, it said this part of the strategy would not be without risk due to market performance and ‘would require extensive risk management’.

Stage 2: Cash lump sum fund

The other 10% of the member’s pension that is not invested would be put into ‘cash-like money market instruments’ and it is from this pot of money that lump sums could be taken without hitting the money invested for income.

‘This separate, low risk and liquid fund would be designed to reduce the need to sell assets from the income drawdown fund to provide the member with ongoing access to lump sums,’ said the proposal.

If the money invested for income grows more than expected, any surplus not needed for income would be transferred to the lump sum fund for members to do with as they like.

The ability to access cash is a popular benefit of pension freedom and Nest said members could use it ‘for unexpected events without impacting their core income stream’.

Stage 3: Later life protected guarantee

The second most popular preference for retirement products is ‘security of guaranteed income until death’, which was chosen by 62% of people surveyed by Nest.

The only way to receive a guaranteed income for life is by buying an annuity so Nest has built in a ‘deferred annuity’ into its blueprint.

From age 65 to 75, it would use the main income investment to make a small payment into an annuity that would kick in at age 85.

‘The contribution is set aside and invested with the objective of securing an income later in life,’ said Nest, adding that the level of the contribution should be around 1.5% to 2% of the total pension pot every year.

If someone dies before age 75, these contributions would be returned to the deceased’s estate but after age 75, the contributions will be lock into a ‘mortality pool’ that would start paying a fixed income at 85.

Under the plan a member’s income would look like this:

Will it work?

In order for its blueprint to become a reality, Nest needs to get insurers on board as they provide annuities, something which Tom McPhail of Hargreaves Lansdown, the wealth manager, said could be a challenge.

‘They have some good ideas here, however their proposals do set a couple of interesting challenges,’ he said.

‘Insurance companies have shown precious little appetite for developing a deferred annuity market, though perhaps Nest’s blueprint will now stimulate more interest. They will also bump up against the challenge of communicating drawdown risks to their customers, some of whom are likely to be relatively disengaged. The [regulator] is unlikely to look kindly on a solution which involves putting disengaged investors into a risk-based retirement income solution.’

1 comment so far. Why not have your say?

Gareth Harries

Mar 07, 2016 at 21:39

Good ideas!

Not sure about the execution and whether they have truly understood the people's requirements and what the providers will actually provide.

As to the comment about Risk based solutions, that has to be the only way to go to provide a growing income over the long term combined with a cash safety level to cover shortfalls in income. At the end of the day a good combination of "equity income" style funds will produce a good and growing source of income

Have they also looked at the tax treatment of their ideas?

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