LCP urges caution before consolidating pension pots

Most people start a new pension every time they start a new job, meaning millions of people are likely to reach retirement with multiple pension pots, the consultancy observed.

It noted that individuals may already receive multiple communications from different pension providers, while the imminent arrival of pensions dashboards will mean people can readily see their pots in one place.

“This is likely to provide further impetus to the growing drive to consolidate pensions into a single pot,” LCP said.

However, there are many advantages to consolidating defined contribution pensions, as well as many risks. LCP’s new guide was jointly written by partners Dan Mikulskis and Sir Steve Webb.

The paper highlighted that lower charges represent one benefit, as many pensions taken out before automatic enrolment will have much higher charges than charge-capped pensions under AE. 

LCP calculated that even moving lifetime savings from a fund charging 1 per cent to one charging 0.75 per cent could result in a fund nearly £25,000 larger for someone on average earnings who contributes each year — even larger savings are attainable if the money is consolidated into a modern pot charging well below the charge cap.

Other benefits include “rationalising your investment strategy”, the paper observed. With scattered pots, it is almost impossible for savers to be clear on how their money is invested and ensure they have the right level of risk and return.

Savers also stand to benefit from the latest investment innovation, LCP said. Many old pots may be invested with a UK bias or may not take advantage of asset classes that have become more mainstream in recent years.

Webb said: “Despite the attractions of pension consolidation, it is important to ‘look before you leap’. Pension products may have attractive features, which can be lost if you transfer out as an individual.  

“This could include access to more tax-free cash, guarantees on the annuity rate you can secure, or even the right to access your pension at a certain age.”

But the guide also highlighted the fact that there may be reasons to be careful before moving pension pots around.  

These include having to forgo valuable product features of old pensions, including “guaranteed annuity rates”, which promise an often attractive annuity rate compared with current market rates — a feature that may be lost on transfer.

Savers would also have to give up “small pot privileges”, such as the ability to access pots under £10,000 without triggering the “money purchase annual allowance” — a tight limit on tax-relieved future pension saving.

Finally, they may lose other “protected” features of their old pension, such as the ability to access it before the proposed normal minimum pension age of 57 by 2028.

“From an investment point of view, your mix between growth assets and stable assets is likely to be the biggest driver of your investment returns,” Mikulskis said.

“But it is very hard to have the right strategy — to get this mix right — if your money is scattered across lots of different pensions, all with their own approach to investing your money.  

“Consolidating can also dramatically reduce your costs, with old ‘legacy’ pensions often charging at least twice as much as more modern arrangements. Switching to low-cost funds can add tens of thousands of pounds to your final pension pot at retirement.”

Webb added: “Before consolidating, you should make sure you know what you are giving up and weigh up the pros and cons before doing so.”

This article first appeared on FTAdviser.com