Two recent news stories have presented an interesting picture about the financial decisions of those in later life. First came further evidence from the Financial Conduct Authority (FCA) of the growth of the number of people employing the new freedom to draw on their pension pots and transfer their funds to new pension schemes. Then came news that some lenders are providing mortgages for terms that stretch well beyond the time when the lender is 100 years old! One bank has just increased the maximum age for mortgage applicants to 85 years. Should we be concerned at these two developments or are they just manifestations of the greater flexibility the older generation now has when managing their financial affairs?
Let’s look at pension drawdowns first. Under the pension freedoms introduced by the government in 2016 those aged over 55 years can make drawdowns from their pension pots instead of just using the accrued value of the pot to buy an annuity (an annual income). A particular attraction is that 25% of the pot can be drawn down tax-free. Those accessing their pension funds are then free to use the money as they wish - including paying off debts, using the money as a source of income to be spread over several years, making new investments (e.g. in property) or even just blowing the money on an extravagant lifestyle. They can also, of course, place the money into a new pension scheme.
People clearly have the right to do what they want with their money. But the FCA is not alone in being concerned that many are making poor choices with their pension pots and are doing so without taking effective financial advice. Without such sound advice the likelihood is that many will be making poor choices, particularly in respect of managing the tax liabilities that arise when drawing on more than that tax-free element. Additionally pensioners may simply spend their pension pots too quickly, ending up with no more than their state pensions in later life. So a decade or so down the line could a financial crisis amongst pensioners be manifesting itself, with feasting on pension pots being followed by an income famine in later life?
The specific concern arising from the FCA’s latest data on pensions is the volume of money being taken out of low-risk defined benefit pension schemes to invest in riskier stock market-based pension plans. The amount of these transfers ballooned from £7.9 billion in 2016 to £20.8 billion in 2017. Worryingly an FCA review published in October last year found that less than a half of transfer recommendations recommended by adviser were suitable for their clients.
What about mortgages beyond the age of 100? I’m less concerned about this development. If these late-in-life mortgages prevent pensioners from being forced to move to rented accommodation then that is good news. The mortgages may also be used by many, in part at least, to help other members of their family get onto the property ladder through the gifting of sums of money. The money might also help to pay for care services too.
For many people entering retirement their pension income will be sufficient to meet the mortgage repayments – and, in any case, the lenders would be evaluating this through their affordability testing. Most of these late-in-life mortgages are, in any case, interest-only which makes repayments more manageable for those living on pensions. And if the mortgagor dies the lender would recoup the outstanding mortgage sum through the sale of the property.
So monetising the equity in your property in later life has attractions - provided those going down this route make their children (or other potential beneficiaries) aware that it risks at least reducing the size of the inheritance they are expecting!
Martin Upton
Director, True Potential Centre for the Public Understanding of Finance (True Potential PUFin)
21st May 2018
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