George Osborne has been widely lauded for his fifth budget. The Chancellor’s political stock rise sharply since March 19th, with headline writers cheering the higher personal tax allowances, fuel duty freeze and greater investment incentives.
Coinciding with improved news on inflation and wages, Osborne’s upbeat budget has added to a growing sense that the UK has turned the corner, with the sunlit economic uplands now in sight, in good time for the May 2015 general election.
While I still have major concerns about the UK’s overall fiscal stance, not least our spiraling national debt, this was indeed Osborne’s most impressive budget – as I argued last week.
Yet one of the Chancellor’s flagship measures is starting to trouble me. I was instinctively in favour of Osborne’s bold initiative to end the legal requirement for retiring pensioners to buy an annuity when he unveiled it on budget day. And, on balance, I still think it’s right.
Yet, the more I’ve examined this policy, the more my enthusiasm for allowing pensioners to unlock tens of thousands of pounds from their retirement funds has been tempered by nagging concerns. It’s a sound idea overall and the Chancellor is to be praised for giving people more access to their own money. In a rush to be bold, though, was this measure really thought through? It’s being cheered to the rafters now, but will we look back and rue the day when a young George Osborne and his Liberal Democrat sidekick, Pensions Minister Steve Webb, gave pensioners who are far from wealthy the opportunity, in Webb’s words, to “spend their pension savings on a Lamborghini”?
As of last Thursday, individuals with pension savings of up to £30,000 no longer have to convert their pension pot into a lifetime annual income by buying an annuity. They can now withdraw the full amount if they wish – nearly double the current £18,000 limit – while being taxed only at their marginal rate, rather than the current punitive “early access” levy of 55pc.
From April 2015, in turn, those aged 55 or over will have access their entire pension savings without having to annuitize. So someone with £100,000 stashed in a pension can take £25,000 tax-free and withdraw the remaining £75,000 as well – again, taxed at only the marginal rate. These are very big changes, rightly described as “radical” and even “breath-taking”.
I should make clear that none of my concerns have anything to do with the bleating of the UK’s mighty life assurance lobby. The sell-off in insurance stocks that followed Osborne’s unexpected move suggests the industry was pocketing a lot of additional income from the government’s previous insistence on an annuity. Legal and General quickly predicted the rule change would see a halving of the UK’s £12bn-a-year market for individual annuities.
While almost 90pc of the 400,000 or so British workers retiring each year currently buy an annuity, in the US, where there’s no such compulsion, only around 10pc annuitize. Having said that, three-quarters of L&G’s annuity sales are bulk products for work-based final-salary pension providers – which aren’t affected by Osborne’s measures.
As if to display its resilience, L&G announced a whopping £3bn buyout of ICI’s remaining final salary pension liabilities just one day after the budget. So there is little danger of our multi-facetted insurers toppling over as a result of these annuity changes.
Prior to the budget, the Chancellor’s advisors let it be known he had a “clever” new policy up his sleeve – which turned out to be these pension measures. It is, indeed, politically astute to bribe people with their own money, especially when they’re 55 or over and have amassed some reasonable pension savings. Such people, after all, compromising the most likely demographic to switch their vote from the Tories to UKIP.
It’s then doubly “clever”, I suppose, to unlock pension savings that are immediately taxed, so flattering the public finances, but without having to impose either immediate tax rises or spending cuts.
By playing politics with pension savings, though, Osborne has waded into very dangerous territory. The idea of a private pension pot is that such savings are absolutely not, in any way whatsoever, prone to the influence of myopic, power-seeking and often financially illiterate politicians. That sacred Rubicon has now been crossed.
I know it’s popular to give people jam today, but there are always drawbacks. Consider, for instance, that the tax on pension savings that gleeful retirees can unlock between now and the next general election means the Exchequer foregoes the significantly larger amounts of tax on the entire future income stream that would otherwise have been generated by an annuity. Ever the political strategist, Osborne’s has succeeded in bringing forward a great deal of tomorrow’s tax revenues – revenues that will sorely be needed in future years, given the rate at which our population is ageing.
Like Osborne, I trust the vast majority of British retirees to “act like adults”, not wantonly blowing freed pension savings on sports cars or lavish holidays, before cynically throwing themselves on the state. A similar loosening of annuity rules in Australia, after all, didn’t spark undue hedonism.
I still worry, though, that many millions of pensioners will get caught out, ending up with nothing beyond the UK’s basic state pension, which remains among the lowest in the developed world, when they live longer than they ever expected.
Between 2010 and 2030, the number of UK citizens aged 65 and over will rise more than 50pc, says the Office for National Statistics. The cohort aged 85 or more will double. While these trends are obviously welcome, there is already a massive deficit of pension savings available to fund our ever-lengthening retirements – and that’s before we start spending early what retirement nest-eggs we do have. There is a considerable danger, as pensions consultant John Ralfe argued last week, that we’ll end up with a large number of very old, very poor pensioners who have over-estimated investment returns and under-estimated their own longevity.
Aside from such long-term concerns, it may be that the gloss is knocked off Osborne’s pension wheeze quite soon, as it starts to generate anger. Keep in mind that anyone with more than £118,000, including their own homes, has to pay for their own social care in old age. Those who withdraw sizeable sums from their pension pots could be pushed over this threshold.
As financial and demographic pressures mount, will this annuity relaxation be interpreted to mean that pension pots count as “your money”, so disqualifying any claim for state-assistance with long-term care, even if you haven’t withdrawn it? I wouldn’t bet against it.
A more immediate danger is that today’s over-50s, already holding a disproportionate share of the country’s wealth and housing stock, could become even wealthier. Who’s to say that we haven’t just unleashed a massive pension withdrawal that sees retirees piling-in to the “buy-to-let” sector in a very serious way, so pushing up house prices even more further beyond the reach of struggling first-time buyers or young couples wanting to start a family – unless, of course, their mummies and daddies are those wielding the pension-pot readies.
I like Osborne’s boldness. I like the fact that pension savers will no longer be forced to annuitize – an imposition which, by channeled their savings into the gilts market, has lately ensured them a negative real-terms return. Yet big policies have consequences, many of them largely unforeseen. So my support for this annuity move is qualified. And I reserve the right to change my mind.