New measures to help improve the quality of advice given to customers about their pension have been announced by the Financial Conduct Authority (FCA), in a bid to help people gain ‘better value’ from their savings.
The regulator previously expressed concerns about the state of retirement savings, highlighting a risk that people could be holding their pension pots in investments that will not meet their financial needs.
Here, we take a look at how income drawdown works and what new measures the FCA is introducing to ensure you get the best return on your pension.
What is income drawdown?
Income drawdown is a way of taking money out of your pension fund to live off of when you hit retirement.
Introduced in 2015, as part of the the new ‘pension freedoms’, it allows you to take up to 25% of your pension savings tax-free.
You can only start using income drawdown once you hit the age of 55 and have a defined contribution pension.
Watch the short video below to find out more about how income drawdown works.
Why is the FCA making changes?
In June 2016, the FCA launched an investigation into the effect of pension freedoms on the state of the retirement income market.
A key finding in the review was that most people don’t really understand how income drawdown works or how their pension savings are being managed.
Overall, the FCA found that one in three people who opted for income drawdown were unaware of how their money was being invested. It also found most customers were ‘insufficiently engaged’ with investment decisions.
To make income drawdown less confusing and help people make well-informed decisions, the FCA set out several proposals and recommendations. These new rules will be coming into force from August 2020.
- Find out more: what pension freedoms mean for you
Three changes that will affect your pension pot
We’ve rounded up three new measures the FCA is introducing to help you better manage your pension funds.
1) You’ll be offered new ‘investment pathways’
To help people take an active role in how their retirement savings are invested, the FCA will introduce a series of objectives – known as ‘investment pathways’ – that firms must offer customers who enter income drawdown.
When you take tax-free income from your pension, you’ll be offered a choice between four objectives for the remaining pot. Your provider can then offer the best method of managing your fund based on the objective you select.
- Find out more: Income drawdown – making your money last
2) Your pension savings won’t default into cash
The FCA discovered that a third of people who didn’t receive advice currently have their savings only invested in cash or cash-like assets – meaning they could be losing out on significant returns.
When you opt for drawdown, firms will often offer to move the whole sum into a cash investment. Overall, 94% of customers who accessed their pensions without taking advice accepted the cash option, compared with only 35% of advised customers.
To address this, the FCA will require that all providers include a warning when a person is at risk of moving all of their savings into cash.
While the FCA hasn’t prescribed the exact wording of the warnings, it will have to include a standard explanation or illustration of how inflation would affect a £10,000 pot over five years, assuming 0% interest and using the Consumer Prices Index.
- Find out more: income drawdown – making money last
3) Provider charges will be made clearer
Currently, all pension providers have to give you a key features illustration (KFI) each time you go into drawdown.
A KFI is a regulated document that gives you examples of how your pension pot might perform in different economic conditions, and also includes information about fees and charges.
KFI’s can be quite lengthy and often cause a lot of confusion.
The FCA is now requiring that firms provide this information in an easily digestible way, and give a clear pounds and pence figure of how much costs and charges you paid in the previous year.
- Find out more: should I take a lump sum from my pension
Other options for cashing in your pension
If you’re wondering what to do with your pension savings, there are several options to consider.
For more information on income drawdown and other options for managing your pension fund, check out our guide on options for cashing in your pension.