In this interview, I talk to the inspirational Janette Weir of Ignition House about the work that companies are doing on flex first/fix later products to meet the Government’s upcoming requirements for schemes to offer default retirement income products. You can read her report (sponsored by Aviva/Age UK) for more info.
PG: When did the idea of flex first/fix later products begin?
Janette Weir: I think where this all started was probably around 10 years ago, just after pension freedoms, when Nest started to look at the blueprint, and started to think about combining drawdown and annuity into a single journey. The situation we have now doesn’t really work. Not many people are buying annuities anymore. Around 20% of pots that aren’t cashed in go into annuities, and the rest go into drawdown. Drawdown is by far the most favoured product, and this pattern has been consistent. However, there are inherent problems with drawdown, as people have to make their own choices and manage the money themselves.
PG: What are the key issues with drawdown?
Janette Weir: The main issues are that people risk running out of money or withdrawing too much. These are the problems we’ve been talking about for the last 10 years. Looking at a product that combines security with flexibility, like a halfway house, is crucial. If you look around the world, there were products like the variable annuity even before pension freedoms, but when we tried to introduce them in the UK, they were difficult to understand, expensive, and ultimately didn’t catch on. The options left are annuity and drawdown.
PG: How do these new products address these issues?
Janette Weir: Flex-first, fix-later products offer drawdown up to a certain point, and then at a later stage, you use the remainder of your savings to buy a later-life annuity, providing an income that will last for life. From the provider’s perspective, it’s easier to manage investment processes up to a fixed date rather than having an unknown tail. This makes it more efficient and cheaper than drawdown, potentially not much more than the accumulation phase. The charges will likely be lower than the 1.5% you see in drawdown.
PG: How are these products structured?
Janette Weir: The product is divided into three parts. The first is an emergency cash fund, which is optional, designed for people with no savings entering retirement. It’s there for unforeseen expenses like boiler breakdowns or car repairs. The amount can be capped at around £5,000 or £10,000, depending on individual circumstances. The second pot is for income generation, which makes up about 60% of your pot. This runs from the day you enter the product until the day before the annuity kicks in. The goal is to have that pot depleted by the time the annuity starts. The third pot is set aside for the later-life annuity, which remains flexible until the annuity is purchased.
PG: How does the income generation work in these products?
Janette Weir: To make sure the income lasts, the provider calculates a sustainable withdrawal rate. The challenge is that if the withdrawal rate is set too conservatively, there could be money left in the pot at the time of annuitisation. While that might sound like a good thing, it means the individual could have had more income earlier. It’s important that people understand the trade-offs, as they will likely compare products with different withdrawal rates. This can lead to people choosing higher rates without fully understanding the risks involved.
PG: So, how are these products communicated to people?
Janette Weir: Communication will be key. People will need to understand how to navigate the product’s structure. The emergency cash fund and later-life annuity will offer flexibility, while the income-generating pot needs to be explained clearly. People also need to understand that they’re getting the security of an income for life, but the decision to buy the annuity can be delayed. There will be a lot of communication needed to explain how this flexibility works and what happens when the annuity kicks in.
PG: What about the age at which the annuity kicks in?
Janette Weir: The decision on when the annuity kicks in will vary. Some companies may choose 75, others, 80, though some people may purchase an annuity at age 75 to start at an older age, like 85.
There will be quite a lot of nuance around how that later life bit works as well, which again feeds back into how the consumer will navigate their way around. The industry is assuming that people have one single pot, and they’ll just sort of flow through into retirement. But we know in reality that isn’t going to be the situation. People are going have several pots, so we either need to get people to consolidate early on or provide some easy way to navigate and decide which product is best for them. Otherwise, with multiple products, they will have different drawdown and annuity purchases occurring at different ages.
PG: Do you think the flex-first, fix-later approach will become the industry norm?
Janette Weir: Yes, I think it will. It’s been a long time coming, but the blending of drawdown and annuity isn’t new. Financial advisers have used similar approaches, but the new product simplifies it for non-advised individuals. It will become the standard retirement product, sitting between these two options. We’ll see more products come to market in the next few years, and once a few large providers launch, others will follow suit.
PG: Is this product suitable for people with smaller pots?
Janette Weir: Flex-first, fix-later is still a good option for smaller pots, but realistically, to make it worthwhile, the pots should be at least £50,000, preferably £100,000. Smaller pots, under £10,000, are usually cashed out, but as auto-enrolment matures, we’ll see more people with substantial pots who will benefit from this solution.
PG: What about people who are currently getting advice from financial advisers?
Janette Weir: You might see fewer people going to financial advisers because this product offers a simple solution. With financial advice, people often feel overwhelmed and end up paying ongoing fees. The flex-first, fix-later product provides a clear path without the need for continual advice. Some people with financial advisers might even consider switching to this product once it’s available.
PG: Are there any concerns around protecting dependants?
Janette Weir: Yes, there’s a significant question about how to protect dependants. Many pension pots are concentrated in the hands of one person in a household. If that person uses their later-life pot and then dies soon after, it leaves the surviving partner vulnerable. We need to rethink how we offer spousal protection in these products.
PG: What else should the industry consider when developing these products?
Janette Weir: The industry needs to think carefully about the needs of older people and how to communicate with them. There’s little communication around drawdown products, and it’s especially rare for products aimed at those over 75. This needs to change as these products move into the mainstream. We also need to ensure that older people can understand the information, process it, and make informed decisions.
PG: Do you think the industry will address these challenges?
Janette Weir: I think they’ll try, but whether they’ll succeed is another matter. They would benefit from working with organisations like Age UK, which have experience communicating with older people. It’s crucial that they understand the specific needs of this demographic, including the amount of information they can absorb and when they need it.
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