Govt should consider ‘decoupling’ tax-free cash from other pension decisions – FCA

The government should consider ‘decoupling’ the tax-free lump sum a person can withdraw from their pension from other decisions relating to their pension.

The Financial Conduct Authority’s Retirement Outcomes Review, published today, 28 June 2018, highlighted that when some savers withdraw their tax-free cash from their accumulation product, they have to transfer out of that product and buy a new product with a drawdown feature.

The regulator believes that during this period many consumers are focused solely on taking their tax-free cash, and therefore do not engage with the process of choosing what to do with the rest of their pension pot.

It warned that consumers take the "path of least resistance" and stay with their provider without shopping around. The FCA is concerned that it is contributing to the lack of competitive pressure on providers and means that consumers are not engaging in their investment decision.

“Separating the decision to take the tax-free cash from the need to move into drawdown will let consumers put off deciding what to do with the rest of their pot, until they are ready to focus on it. However, this would require major changes to the pension tax regime and we recognise that there are,” the FCA stated.

Despite the major changes required, the regulator believes that 'decoupling' has the potential to benefit many consumers. In particular, it said the consumers who focus solely on taking the tax-free cash and do not engage with the decision about what to do with the rest of the pot, could benefit significantly from delaying that decision.

“Decoupling will allow their pension funds to remain in their existing accumulation scheme, and to make a better drawdown decision when it is more relevant to them and they are more likely to engage in it,” it said.

Analysis by the FCA has found that for consumers that don’t engage in the decision have been defaulted into cash or cash-like funds, or other investments that are unlikely to suits their needs and objectives.

“While our package is designed to increase engagement and reduce poor outcomes that may arise from this, decoupling has the potential to further improve outcomes for consumers. However, stakeholders did raise concerns around the potential costs and the risk that it would lead to more consumers taking their tax-free cash early,” it said.

Old Mutual Wealth pensions expert Ian Browne said that while the rationale is understandable, decoupling would be complex to administer, and risks adding more complexity to an already intricate pension tax system. “For instance, decoupling would require ring-fencing pension fund rights. Instead of adding more rules, product innovation could achieve the same goal,” he said.

However, AJ Bell senior analyst Tom Selby said: “We agree with the FCA that customers who simply want their tax-free cash shouldn’t be forced to make a decision about what to do with the rest of their retirement fund (at the moment, any ‘decoupled’ payment would incur an unauthorised payment charge). If someone doesn’t want to start taking an income, it seems odd that they are required to enter drawdown or buy an annuity in order to get their 25 per cent tax-free lump sum."

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