A report from the State Market Foundation argued that the UK Government should learn from countries that have similar pension freedoms in place to assess how UK retirees are likely to respond to April’s reforms.
It used Australia and the US as comparisons because both countries are closely aligned to the UK pension system, offering retirees a significant amount of choice on how to access their pensions. The report also compared the UK regime to Canada, Switzerland and Denmark.
Quick spenders
Examining two decades of spending, the report found that while most people are sensible with their pension pots, some spend their savings very quickly, with an estimated 25% of Australians exhausting their pension pots by age 70, and 40% by age 75.
The average American was found to have spent their entire pot after just 17 years into their retirement, which is five years ahead of the average life expectancy for a man, and nine years ahead of average life expectancy for a woman.
"If we really want to know how pension freedom is progressing and avoid such detrimental consequences, we need to introduce an early warning system"
International evidence suggests that certain groups – such as women and non-homeowners – are at particular risk in retirement.
Reduced living standards
The State Market Foundation said there are “considerable risks” in the long-term which both individuals and the state will be exposed to with the new framework.
It cited one of the potential consequences derived from the pension freedoms is an increased likelihood of poverty and smaller state pensions for people in retirement, which could lead to reduced living standards and wellbeing.
“These risks have the potential to undermine the long-term sustainability of pensions policy,” the report reads.
Three paths
Given the long-term nature of retirement decisions, it will be many months, or even years, before the UK will be able to analyse the outcomes of the new norms.
However, by using international evidence, the foundation identified three decumulation paths:
- The ‘Cautious Australian’ path whereby retirees decumulate their pension wealth by less than 1% per year, ensuring there is money left for later life.
- The ‘Quick-spending Australian’ path whereby retirees decumulate very quickly, exhausting their pension pots entirely by age 75.
- The ‘Typical American’ path whereby retirees decumulate their wealth by 8% of their initial pension pot each year.
Tried and tested
Nigel Keohane, director of research at the Social Market Foundation, said: “Pension freedom may be new to the UK but such approaches have been well tried and tested elsewhere.
“If we really want to know how pension freedom is progressing and avoid such detrimental consequences, we need to introduce an early warning system to monitor retirement decisions, understand the long-term implications and ensure consumers receive the right support.”
