The Budget changes were dramatic, surprising and good for DC

George Osborne’s major headline proposal was, of course, that defined contribution members will be able to take all of their DC pot at retirement as cash at a point of their choosing, after a minimum age, initially set at 55. If more than 25 per cent of the pot is taken as cash, the excess amount will be taxed at the marginal rate.

This came like a bolt out of the blue. It is a radical and dramatic change. Once the proposal becomes law, as it is likely to in April 2015, it will irrevocably change the face and structure of pension saving in the UK, and of DC pensions in particular. 

In fact it probably enhances DC, by creating engaged, informed members who recognise the importance of lifetime saving 

A National Association of Pension Funds consumer survey carried out after the Budget revealed 28 per cent of consumers are now more likely to start saving or save more into a pension scheme.

The freedom that will be given to them is either attractive in itself or changes their perception of the locked-in nature of a pension scheme – whichever does not matter.

It is simply good that more members will join or contribute more – improving their chance of having an adequate income in retirement.

Building on engagement

It should follow from this improved willingness to contribute that members will also be more willing to engage. This is also good. Engaged members are far more likely to make informed decisions leading to better outcomes.

In addition, engaged members will make the job of designing defaults – of whatever nature, be that contribution, investment or at-retirement – either less relevant, because fewer of them will be defaulters, or easier.

Defaults need to be appropriate for the population of members at hand. If we have engaged members, we will know more about them and so be better placed to design appropriate defaults.

The Budget badly knocks the annuity market and it may never recover. The longevity profile of annuitants in the future will be very different from in the past. Those buying standard annuities will, on average, have longer life expectancy.

But the changes will also drive creativity and innovation. We will see new payment-phase investment vehicles being developed that will be able to compete with annuities, by a far wider community of providers – increasing competition and so driving down cost.

In the short term there are problems and risks – for example, the policy has not yet been properly thought out. How will they control ‘recycling’ of pension withdrawals, where tax-free cash is reinvested into a pension scheme where it gets tax relief? 

The idea there is that, say you were over age 55 and a 23 per cent taxpayer. You could hypothetically withdraw £10k of your tax-free cash after April, as you are now no longer tied to also receiving a pension income, and reinvest it in a personal pension, where it is grossed up to £12,300. You could then withdraw 25 per cent of that and reinvest it.

In addition, most default investment strategies will be wrong and so need redesigning without the benefit of any data on what people will do, but all of this will be sorted out eventually.

There are also longer-term political risks. Will the cash reform make it easier for a future chancellor to argue for a limit on or the abolition of tax-free cash?

The Budget was dramatic and a surprise. It will change DC pensions forever but, despite the shorter-term problems and risks, I do not think it threatens the concept of DC pensions.

In fact it probably enhances DC, by creating engaged, informed members who recognise the importance of lifetime saving.

Sure, DC pensions will change, perhaps more radically so in the future. But change, in this form and in this context, is good for DC and for those that use it.

Richard Butcher is managing director at professional trustee company PTL