In its 2017/2018 Business Plan, the FCA highlighted competition and innovation as key areas of focus. It is fitting, therefore, that the FCA's interim report on the retirement income market (published last month) emphasises both the importance of the FCA's role as competition regulator and also the growing need for innovation in the pensions market (for our full briefing on the FCA 2017/2018 Business Plan see here). The FCA's Final Report on the retirement income market is expected in the first half of 2018.
Since the introduction of pension freedoms in April 2015, consumers have enjoyed much greater flexibility in managing their retirement income through products in the UK offered by FCA-regulated providers. Most significantly, many consumers who would previously have had to purchase an annuity upon retirement are now faced with many more options – those aged 55 or above can now fully withdraw their pension pot, and the former restrictions surrounding annuity and drawdown products have been noticeably relaxed.
The recent evolution of the pensions market
As a result of this greater flexibility, the FCA's predictions about significant developments it would see in the retirement income market have been largely borne out by its recent findings. Highlighted in the report is the marked increase in the number of consumers accessing their retirement pots early (i.e. before the age of 65) – 53% of the pots accessed early have been fully withdrawn. However, of the pots fully withdrawn, the overwhelming majority tended to be relatively small (90% of fully withdrawn pots were less than £30,000). The FCA also offered reassurance in that only a quarter of these fully withdrawn pots were actually spent, with the majority instead choosing to invest the lump sum in other savings products.
In addition, drawdown (where money is left invested in a pension pot and an income is generated directly from the way in which that money is invested) has become a much more popular option. Prior to the pension freedoms, those opting to invest their pension pot in drawdown had to show they had other sources of guaranteed income. Since the pension freedoms dispensed with this requirement, there has been an eight-fold increase in the number of consumers purchasing drawdown, now rendering it far more popular than annuities.
Whilst the pension freedoms have been largely welcomed by consumers, the resulting developments in the pensions market have exposed certain areas which the FCA believes require attention.
Lack of trust
Of the 1000 consumers surveyed by the FCA, lack of trust in pensions was chief amongst the reasons for consumers opting to fully withdraw their pension pot. This has no doubt been driven in part by the negative media attention surrounding pensions of late. Another contributing factor is a lack of understanding amongst consumers about how money in pension schemes is invested.
In fully withdrawing their pension pots early without taking the necessary advice, the FCA fears that consumers may actually find themselves worse off. They may be faced with a larger tax bill and may also be sacrificing benefits they would otherwise have gained by leaving their money invested in a pension scheme.
Lack of advice
The FCA also expressed concern about the number of consumers purchasing drawdown products without seeking prior advice. This results in consumers potentially buying a drawdown product which is not best suited to their needs and, additionally, leads to a lack of competition amongst pension providers since the unadvised consumer is far more likely to purchase a pension product from their existing provider than shop around. This lack of competition ultimately results in a less appealing market for consumers.
This opportunity for increased competition seemingly opens up a potential market for asset and wealth managers whose investment products might be suitable for those looking to invest a withdrawn pension pot.
Lack of innovation
Also high up on the FCA's list of concerns is a lack of innovation in the retirement income market. The FCA is keen to encourage innovation in order to improve the range of pension products available and to change the manner in which pensions information and advice is made available to the consumer. Cited in the report as one avenue for exploration is the provision of 'robo-advice' (a FinTech development providing consumers with algorithm-generated financial advice). Although fairly widely utilised already in the wealth management sphere, ‘robo-advice’ has not yet been explored in the pensions arena. The FCA's findings are, therefore, an important illustration of the potential for greater future interaction between FinTechs and the retirement income market. For more on FinTech innovation, see our recent briefing on the European Commission's view and the FinTech update contained in our Q2 Commercial Forecast . For our most recent FinTech update in relation to the Bank of England's FinTech Accelerator.
FCA potential remedies
The FCA is keen to ensure that consumers are able to enjoy the greater flexibility in the most supportive environment possible. To this end, it has proposed various possible remedies to tackle the areas of concern it highlights.
The FCA is firstly considering the introduction of increased protection for the unadvised consumer, for example creating default investment options for those who do not take advice and also increasing the Independent Governance Committees' monitoring of such default pathways. The FCA also proposes increasing the appetite for competition in the market by introducing tools which allow consumers to directly compare different drawdown products more easily.
Conclusion and next steps
Perhaps at the heart of tackling the FCA's concerns, however, is solving the more fundamental question of what lies at the heart of the customer inertia observed by the FCA, both with regard to consumers who fail to take advice and those who fail to shop around for better products. It is of course difficult to determine precisely how such consumer attitudes have come about, but the clear lack of trust in pensions has surely played a central role. Rebuilding this will doubtless require long-term and extensive collaboration between the Government, pension advisory services and, not least, pension providers themselves. The FCA is looking for comments on the interim report, including on its current thinking regarding potential remedies, by 15 September 2017.
If you require further information on anything covered in this briefing please contact Louise Bralsford (+44 (0)20 3375 7903), Jessica Gibson (+44(0)203 375 7811) or your usual contact at the firm on 020 3375 7000.
This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.
© Farrer & Co LLP, August 2017