Retirees who have left their money invested in an ‘income drawdown’ arrangement have seen their income slashed by almost 40% over the past five years, thanks to new government rules and falling gilt yields.
Which? has found that a 65-year-old man retiring with a pension of £200,000 in 2012 would receive nearly £7,000 less than he did in 2007 if he had his pension savings in a drawdown arrangement.
One reason for this fall was a change in the rules that calculate how much income you can take in a drawdown scheme. Up until April 2011, the Government Actuary Department (GAD) set the maximum drawdown amount at 120% of the income you would get if you bought an annuity. This has now fallen to 100%.
Falling gilt yields affect pensioners in income drawdown
This reduction in the maximum drawdown amount, combined with declining gilt yields, means that the pensioner income has been dramatically reduced.
Gilt yields have been falling since 1990 because of low interest rates and increased longevity, which has forced annuity providers to reduce rates as they are paying out for much longer. Continued quantitative easing (QE) has also pushed down gilt yields.
You can learn more about QE in our guide to the 5 must-know facts about quantitative easing.
A fall in gilt yields reduces annuity rates, because pension funds are invested heavily in gilts on the basis of their reliability as an investment. This reduction in turn hits people in capped drawdown, because the amount they can access each year is tied to annuity rates.
The impact of GAD table changes
In June 2007, 15-year gilt yields were 5.12% and annuity rates were 7.36%. From December 2011 to May 2012, gilt yields dropped from 2.59% to 2.27% and annuity rates from 5.86% to 5.85%.
In December 2010, a 65 year old man would have been withdrawing £16,320 per year – equivalent to 120% of what he would have received from an annuity.
However, in December 2011 the same man would only have been allowed to take 100% of this because of changes to the GAD tables, so his income would have fallen to £11,200. This is £6,500 less than he could withdraw in 2007.
Rates continuing to fall
In May 2012 he would have been even worse off. He would only have been receiving an annual income of £11,000. This is £200 less than he was getting in December 2011, £5,320 less than he was getting in 2010 and a huge £6,760 less than he was receiving in 2007.
If yields continue falling at this rate, in 2017 he will be receiving just £6,820. According to the Office of National Statistics, the average yearly spend for a retiree is £23,000 – leaving a shortfall of £16,180.