Why 'healthy' life expectancy matters to members

But what if those additional years of retirement were scotched by fading health, leading to an overall poorer quality of life and an extended need for long-term care? Even those with a apparently adequate retirement pot should be concerned.

Improvements in mortality rates are casting a skewed view of health in retirement, says the Institute and Faculty of Actuaries, whose most recent Longevity Bulletin showed that ‘healthy life expectancy’ data, when used in conjunction with longevity data, indicate people are living longer but not necessarily healthier lives.

While the average UK female can expect to live into her early eighties, compared with late seventies for males, the number of those years self-declared as healthy is less for females – at just 79 per cent compared with 82 per cent for males (see graph).

As such, long-term care cost challenges must be tackled in tandem with pensions, argues David Hare, president elect of the IFoA.

“Historically, pensions and long-term care policy have not been considered in conjunction with each other enough, but as we all live longer and as age-related illnesses increase, we believe it would be beneficial to do so,” he says.

Impact of state pension changes

Recent changes to the state pension proposals should make it clearer for individuals to understand their entitlements and any requirements to contribute to care costs, Hare adds.

A pension annuity can be used in a similar way to generate a lump sum to cover care costs

The updated pensions bill included a clause to periodically review the rules on pensionable age and vowed in vague terms to consider in its reporting factors beyond mere mortality figures.

It said: “The secretary of state must from time to time… review whether the rules about pensionable age are appropriate, having regard to life expectancy and other factors that the secretary of state considers relevant.”

Douglas Anderson, partner at Hymans Robertson, agrees greater attention should be paid to trends in healthy life expectancy as well as total life expectancy. He believes the requirement contained within the care and support bill for local authorities to direct individuals to advice will also lead to greater demand for product solutions.

“One approach under consideration is the development of so-called disability-linked annuities that have a step-up in later life if the person has a care need,” he says.

Yet this kind of responsive income stream will ultimately have to be funded on top of retirement savings that for many are already inadequate.

However, as the government increases the number of people saving for retirement through auto-enrolment, it may be possible to encourage extra saving for old age care, says Alan Higham, chief executive officer at Annuity Direct.

“But policymakers are going to have to offer a carrot, I feel, if people are [going to be] willing to do that outside of their house,” he says.

Tax incentives aside, it is a moot point as to whether auto-enrolment holds the key to the care costs conundrum, as last week the Department for Work and Pensions’ deputy director of pensions and ageing, Adrian Richards, was reported to have warned that raising contribution rates too quickly could damage the economy.

Wyn Derbyshire, head of pensions at law firm SJ Berwin, says the DWP is right to be concerned, and that while there is a need to get people saving, too rapid an increase will put strains on employers and employees alike.

“This may discourage workers from participating in the programme, which is intended to encourage pension savings, defeating the object of the exercise,” he adds.

Funding retirement

Saving for retirement should be viewed simply as funding an income in later life which should include the possibility of care costs, believes Tim Gosden, head of strategy for individual annuities at Legal & General. He says education is the key to getting people to save more into their pension to cover long-term care costs, rather than creating separate products.

“Retirement will happen at some stage but care may not, and so funding in a specific care product may be a difficult sell. Pensions obviously carry the tax advantages and so highlighting the need to fund for your retirement, which may include care [costs], may encourage consumers to save more in their pension,” Gosden says.

But Higham argues that tax incentives currently favour the annuity route. “At the moment, if you use assets to buy an annuity to pay directly for your care costs then no income tax is payable on that annuity. If pension income was used to pay care costs then granting a similar tax break might encourage higher savings.”

Indeed, saving for care should be a tax-incentivised activity as it is with pensions, urges pensions expert Ros Altmann. However she warns that to be able to use pension savings for care, the income would need to have provision to increase should care be needed.

“Currently, pensions only increase in line with inflation, there is no other increase built in,” she says.

An alternative solution lies in introducing greater flexibility on the use of existing assets such as with equity release, believes L&G’s Gosden. A pension annuity can be used in a similar way to generate a lump sum to cover care costs, as they can include a value protection option that pays out a lump sum on death.

“What if… it is paid in the event of death or [when] requiring care?” he asks. “What if the tax charge was negated or deferred if it is used to fund care? It may not be the solution for all but if you can release capital from your house and pension then it’s all helping.

“So yes, people need to realise the importance of saving more, but equally let’s see more flex around the assets they already have for care funding.”

It is imperative defined contribution providers better inform savers about the level of income they can expect to receive in retirement, contends Hymans’ Anderson. “While insurance companies need to address the increasing market for protection against long-term care costs.”