A tacit competition to find the individual whose drawdown income has fallen the most is raging like a hot new Olympic event. Some providers have then used this to argue that the way capped drawdown operates needs fixing. It’s straight out of the Alastair Campbell play-book. In reality, their case is far from clear.
Let’s examine the evidence: what has, hasn’t and will change? Let’s also remind ourselves that capped drawdown does not sit in splendid isolation: what should we be learning from alternative financial products such as annuities, flexible drawdown and ISAs?
Lower GAD rates due to greater longevity – this is fair enough: people are living longer. The change will have caught some by surprise but it realigns withdrawal rates with reality. Just as it is planned to link the state pension age with longevity, so the GAD tables ought to be regularly reviewed according to a formula that gives some predictability to the occurrence.
Withdrawal rate cut from 120% to 100% of GAD – this has crimped the flexibility of capped drawdown. Just because drawdown is an alternative to annuities, it doesn’t mean to say it has to mimic them exactly. Since withdrawals can be turned off completely – what might be viewed as “under withdrawing” – some mechanism to allow compensatory “over withdrawing” up to a reasonable limit seems fair.
However, there is no over-and-under balancing mechanism: withdrawals could be made at 120% until the fund was exhausted. And there is no base income that has to be in place, a la flexible drawdown’s Minimum Income Requirement (MIR). Introducing a mechanism would mean more complexity and expense.
What didn’t change?
GAD rates are still based on bond yields – funnily enough, no one ever complained about this until bond yields fell to very low levels. With a new alternative of flexible drawdown available, there is now less reason to complain. Certainly basing withdrawals on 15-year government bond yields is a compromise but any investment or index will be. This basis is clear and not unreasonable. I doubt I’m the only one who could foresee a scenario where, having successfully lobbied to base withdrawal rates on equities, bonds out-performed and there was a new clamour to return to the old base!
What will change?
Male and female GAD tables will be merged into a unisex one – in my opinion, this is madness: the European Court of Justice has introduced discrimination. They cannot tell the difference between being equal and being the same. Until the ECJ figure that out, I can only suggest that men put their car insurance savings into their pensions and women drivers think calm thoughts of retirement.
What else has happened?
Poor investment returns – unfortunate for those affected but it is one of the risks accepted with drawdown. It is clearly declared by providers and considered by advisers and clients.
Record low interest rates – again, one of the risks of drawdown, declared by providers and considered by advisers and clients.
Quantitative easing – I am willing to assume that QE has caused low interest rates; what is unknown is what would have happened without it. Personally, I hate the term. It should be named in clear, fair and not misleading terms to describe what it is: printing money to buy our own debt.
However, bending capped drawdown (and God-knows what else) out of shape in an attempt to compensate for the warping effects of printing money to buy our own debt only makes its effects more insidious. Better to tackle the root of the problem.
QE aside, you can’t help sensing that by far the biggest underlying cause of the griping about capped drawdown is that risks people were willing to accept have come to pass. Although only flexible drawdown comes with the MIR, in practice everyone has their own personal MIR. So, before choosing capped, at least two fundamental areas need considering:
1) the individual’s personal MIR, including how it may change over time and how best to meet it; and
2) whether there should be other resources in place to cope with the significant variations in income that are possible with capped drawdown.
Surely the unofficial MIR should mostly, if not exclusively, come from the same sources accepted for the actual MIR. Having, say, ISAs available to draw on would help iron out fluctuations in income from capped drawdown. Advisers know this – it is what they have been discussing with clients all along.
It is not unreasonable that capped drawdown has less flexibility than flexible drawdown. Providers should cap the special pleading for reform – it has unnecessarily set the cat among the pigeons. Capped drawdown is not broken and does not need fixing.