Inflation adjustment is coming next April, but will consumers understand the new set of figures, asks Natanje Holt
There has been much commentary over recent times as to the effect the government‘s policy on quantitative easing has had on the levels of retirement income available to consumers from their hard-earned pension savings.
One of the main issues we are keeping our eye on is the upcoming implementation of inflation-adjusted personal pension key features illustrations (KFIs) which was confirmed in the FSA’s PS13/2 (www.fsa.gov.uk/static/pubs/policy/ps13-02.pdf) back in March.
Inflation-adjusted personal pension KFIs will become mandatory on 6th April 2014 although the above policy statement indicates that inflation-adjusted drawdown illustrations will remain voluntary beyond this deadline.
As you probably know the new spread of pensions projection rates of growth which will also go live on 6 April 2014 will be set at 2%, 5%, and 8%.
There are several objections to moving to inflation-adjustment for KFIs (SMPIs already quote inflation-adjusted numbers), not least is the fact that both ISA and GI products will still not be subject to the same rule, creating an uneven playing field which discriminates against personal pensions – hardly stimulating pensions-based saving.
The fact that with the new low flanking rate will be 2% and the inflation adjustment percentage is set to push figures down by 2.5% (it is calculated as 2% above Bank of England base rates) will mean that at least one number on the projection spread will be negative – making next year’s KFIs far from encouraging reading!
Then there is the question of what inflation figure we should use. We can use inflation percentage based on RPI (Retail Price Index) or CPI (Consumer Prices Index).As the linked document by the Pensions Advisory Service points out, CPI is generally 0.7% below RPI because it leaves out the impact of mortgage interest increases for example (www.pensionsadvisoryservice.org.uk/media/939500/spot011thechangefromrpitocpi.pdf)
But there is also now talk of a new ‘Silver RPI’ which many in the industry believe should be applied to drawdown illustrations.
Silver RPI’ as detailed on the Age UK website, reflects the fact that the over 55-year-olds have different needs and spending patterns to those of younger people. They are less exposed to the current low mortgage interest rate environment (they have often paid their mortgages off) but more exposed to current rises in food and utilities bills. Age UK gives us a table which indicates that an average 65-69 year old during the 2008-2011 period, faced an additional annual costs totalling £1,054, compared with standard RPI.
Several industry figures are talking about the need to have a sliding scale of RPIs as retirees move through different phases of retirement. Alan Higham, head of Annuity Direct, spoke at the recent TISA Conference along these lines. It is food for thought as ‘standard’ inflation-adjustment calculations are being applied in drawdown illustrations over the next few months.
It is also worth thinking about whether UK consumers truly understand inflation. Dunstan Thomas commissioned consumer research indicates that many consumers simply don’t understand concepts like inflation and bank interest rates.
Separate Money Advice Service research published in August (www.moneyadviceservice.org.uk/en/static/new-study-shows-uk-developing-positive-money-habits) also shows there is a good deal of education to do around this area before everyone fully grasps the array of numbers being provided to them in illustrations.
One worrying statistic that came out of MAS’ Financial Capability of the UK Report was that 12% of UK consumers think that the current BoE base rate is currently set at over 10%! Perhaps we need to focus a little more on simplifying illustrations – making the increasing array of figures they provide easier to grasp.
Natanje Holt is managing director at Dunstan Thomas
Follows McVey's resignation
Schroders and Aviva Investors
LightTower Partners, Seneca Partners and Unicorn AM
Integration with Money Dashboard
View from the front row