Wealthy investors who drew too much money from their pensions during the economic downturn could be forced to rely on the state for their income in retirement.
Consultants say that investors are raiding their pension pots for money to pay debts and fund their lifestyles, causing a shortfall in their pensions.
“Even those individuals who started with significant pension funds are in very great danger of now falling back on the state,” warned Andy Cowan, head of wealth advice at Towry Law, the financial adviser.
Wealthier pensioners are most at risk. Most people buy an annuity with their pension, which ties up the money with a life insurance company but guarantees them an income for life. Income drawdown products favoured by the rich, however, allow the pension to stay invested in the stock market, paying an income to the pensioner.
The latter plans are popular with people who want to retain control over where their pension is invested. They also allow the money to be passed to heirs if the pensioner dies before the age of 75, when they are legally required to buy an annuity.
But pensions in income drawdown were hit hard by last year’s stock market falls. Those that were invested in high risk equities have lost at least half their value.
Some pensioners have compounded the problem by opting to take higher levels of income from their pension. The maximum income level from an income drawdown pension, set by the Government Actuary’s Department, is 120 per cent of the income that would have been received if the money had been used to buy an annuity. But pension consultants say the product has not been around long enough to know whether this limit will suffice to prevent people with income drawdown pensions from running their fund dry.
“We’re seeing more people in income drawdown going to that maximum level so they’re effectively whittling away the value of the fund which has already been falling in value. It’s a double whammy,” said Helen Dowsey, a consultant at Aon Consulting.
Investors are also taking lump sums of cash out of their pension to boost income – up to a quarter of the value of the pension can be taken out free of tax. This ruse has become popular over the past year. Some are even paying off their children’s debts with their retirement savings.
Income drawdown products were introduced in the 1990s. They were initially a very niche, expensive product, but sales have been rising in the past few years as competition has led to lower costs.
However, this has created fears that some investors may have been missold income drawdown plans, as the number of complaints to the financial ombudsman has hit record levels.
