Wake-up packs are dropping on hundreds of welcome mats across the UK, addressed to a select group: the first people to retire in April 2015, when the government's pensions freedoms begin. Some of these will have been in pension schemes for 30 years and have significant entitlements. They will be the first group to receive lien over the pot of cash that will have to last them the rest of their life. They will no longer have to buy an annuity, but the question remains, what will they buy?
Pensions minister Steve Webb famously remarked that people were free to "blow the lot on a Lamborghini", a statement seemingly at odds with his push to get more people saving through auto-enrolment, following a model similar to the Australian system of compulsory workplace pensions. So far, auto-enrolment has worked. Department for Work and Pensions figures from the Framework for the Analysis of Future Pension Incomes, said a further 1m people would be saved from inadequate retirement incomes through auto-enrolment.
But the benefits will not be seen for another 20 or 30 years, when we will know whether being auto-enrolled resulted in higher pension pots at retirement and lower dependency on the state – and whether people will end up buying Lamborghinis, property or annuities.
We may have learned lessons in saving from the Australians, but how have the Australians spent their stash?
History lesson
It's worth going back in time. In 1988, the UK passed legislation to allow people to opt out of Serps (the state earnings related pension scheme) and take out personal pensions instead. Simultaneously, actuaries were warning the Australian government that it faced a demographic time bomb 30 years down the line if it did not bring in full compulsion in relation to workplace pension provision.
Since 1992, in Australia there has been no opting out of pensions. Employers' pension contributions rose from 3.25 per cent to approximately 9.5 per cent. Households were encouraged to save, with TV campaigns and trade union backing. A whole "eco-environment was created by the pensions system", says Geoffrey Conaghan, Australia's agent general for Victoria.
According to data from the Melbourne Mercer Pension Index report, compulsory superannuation saw assets in super funds grow from AUS$550bn (£301.4bn) in June 2003 to AUS$1850bn (£1.04 trillion) in 2014. And now, Mr Conaghan says: "We are reaping in Australia what we sowed 25 years ago." A savings culture.
Yet with great wealth comes responsibility. Some 22 years after the Australian government lifted similar restrictions to the UK's annuity regime, its Murray Review on the future of Australia's pensioners has warned that investors may have to purchase some form of guaranteed income.
A recent 460-page interim report states that 44 per cent of people taking their pension benefits as lump sums used it to pay off their housing and other debts, or to buy a home. Some 28 per cent used it to go on holiday or buy a new vehicle. The report warned of "seriously depleted pension funds as a result of the freedom to invest".
Education issues
Some of Australia's wealthy are wondering if the income will last as long as they hoped. They're living longer, needing ever-expensive care. They saved – and yet spent. But this was not through a lack of financial education. Mr Conaghan says: "Education has supported the pension system, not just in Victoria but more widely in Australia. We have more than 25 years of information and access to data that helps people make more informed decisions."
Worryingly, this is where the UK may come apart in 22 years' time, and need its own form of Murray Review. The UK has only just implemented financial literacy into the curriculum. People are being encouraged to save into a pension scheme now, without proper advice. There's low financial literacy, unlike in Australia.
We are being given financial freedom one minute, but then informed that we will have to continue working later into old age to get financial security. The messages being rushed out of Whitehall are confusing and there is still, at the time of writing, no news on the promised Guaranteed Guidance for those people approaching retirement in six months.
Too many options
Even wealthy investors are struggling to know what to do with these promised freedoms. David Trenner, owner of Glasgow-based Intelligent Pensions, says: "One lady had £295,000 in her pension pot and wanted it all in cash. She didn't understand she would end up paying £90,000 tax. There are many high net-worths who think they know what to do with their pensions, but do not understand the tax implications."
There will be temptations to generosity, such as helping children onto the housing ladder, but Mr Trenner warns: "The danger is that in 20 years' time, many wealthy people who took all their income in their 60s and 70s will end up destitute in their 80s and 90s. Whoever's in power then may have to create a form of post-retirement compulsory savings regime."
Ros Altmann, the government's older workers' champion, does not believe the UK will return to the bad old days of compulsory annuitisation, nor that Australia would "wish to emulate" the poor experience which "dogged" the UK for so long.
However, some "default approach" to preventing a cliff-end is "reasonable", according to David Knox, author of the Melbourne Mercer Pension Index report, so people would not have to make an "immediate decision at retirement" without appropriate guidance and advice. He says: "In Australia, annuities are unpopular. Many retirees have an account-based pension, which is a flexible drawdown product where retirees choose how much to withdraw, within certain limits set by the government. This could be where the UK is going."
Ms Altmann adds: "We have learned in the UK to get the right type of annuity, and not to buy it too young. A drawdown approach, perhaps with some capital guarantees or minimum income floor, may be more popular and user friendly." With innovative product provision, education and advice, the UK may avoid thousands of pensioners in Bugattis driving cap-in-hand to the state.
• Simoney Kyriakou is news editor of Financial Adviser
