Pension freedoms may be good for your pot but not for your health

Significant numbers of pension savers who keep their pots invested are finding that uncertainty affects their mental health.

It’s no secret that there is a strong link between mental health and the state of your finances. It now appears that even taking advantage of the pension freedoms may bring with it challenges for your state of mind.

Legal & General and Demos have analysed the results of the English Longitudinal Study of Ageing, and found there appears to be a link between people’s mental health and the way they have chosen to use their pension savings, particularly when looking at people on poor or modest incomes.

For example, it found that one in five (19%) of those who had kept their pension pot invested said they had ‘not enjoyed their life over the past week’, more than double the number of people with a guaranteed income in the form of an annuity (9%).

These less-well-off people were also more likely to say they had felt sad for much of the past week (22%) compared to annuity holders (15%).

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The death of the annuity?

The introduction of the pension freedoms three years ago led to a crash in the number of people using their pension pots to purchase an annuity.

Before the freedoms came in, there were typically around 350,000 annuity sales a year. But since freedom day, just 187,000 annuities have been sold in total.

Annuities had come in for plenty of criticism in the years before the freedoms came along to be fair, particularly for the poor returns they delivered to some savers who chose to cash in their pots in return for a guaranteed income for life.

But we are now trapped in something of a vicious cycle. Because demand for annuities has crashed, providers have deserted the market, with at least eight choosing to scrap offering the products altogether.

That shrinking level of choice isn’t exactly good news for those people who do still see value in the certainty an annuity can provide for them.

Indeed, it’s left some particular holes in the market, niches that certain providers had previously filled, only to now abandoned annuities entirely.

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What price to pay for certainty?

I can certainly understand the link between that element of uncertainty and poorer mental health.

Having some certainty over your finances, whether that’s the amount going out or the amount coming in, can be incredibly welcome, even if that certainty comes at a price that ultimately leaves you worse off.

Look at mortgages. Over the last few years, with Base Rate as low as it can ever conceivably go, there have been some incredible deals on variable rates which track the base rate.

Even right now you can get a current rate of just 1.32% on a two-year tracker, a fair bit cheaper than most of the best fixed-rate deals over the same time period.

But hand on heart I would never have even considered going for one. In fact, I’ve always gone for five-year fixed rates, paying even higher rates for the sake of certainty over what I’m paying every month.

And now that I’m in a job where my income can fluctuate massively from month to month I can understand the appeal of a steady salary even more.

I know why people keep their pension invested. They know that if it all works out, they may end up better off, have more money to play with in their later years.

But the stress of not knowing, of not being able to plan and budget properly, is very real.

I’ve had a small taste of it on occasion this year, and I’m in a position where I can actually do something about it.

For pensioners – particularly those who are less well off – who are a little more limited in finding new revenue streams, that stress and uncertainty will be all the more acute.

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Drawdown isn’t for everyone

When the pension freedoms were first announced, there were some concerns that pension savers would lose the plot and blow the money that they had squirrelled away on fast cars and expensive holidays.

Thankfully, the reality has been rather different. The latest data from HM Revenue & Customs has shown that the people that have been dipping into their pensions have done so in a sensible way, with the average withdrawal in the third quarter of this year coming to £3,350.

As Nathan Long, senior pension analyst at Hargreaves Lansdown, put it: “Many of these withdrawals are now courtesy of the retire-as-you-go generation drawing on their pension again and again for long-term income as their lifestyle dictates.”

Clearly, for some savers, the introduction of the pension freedoms have been fantastically liberating.

But the truth is that keeping your pension invested, and then drawing down funds when necessary, is not going to be appropriate for an awful lot of people, and not just because they perhaps don’t have such large pension pots.

The whole point of the pension freedoms should have been that older people have more choice over how they use their pots. That shouldn’t mean that the old options, such as buying an annuity, are overlooked.