Royal London has warned consumers to seek advice before consolidating smaller pension pots to avoid leaving themselves worse off by losing access to pension benefits.
People often combine their pensions so that they only have one pot to manage, but Sir Steve Webb, former pensions minister and now director of public policy at Royal London, warned doing so could mean losing benefits that some pots offer.
Sir Steve said auto-enrolment had contributed to people wanting to consolidate their pensions, as individuals may end up with a separate pension pot from a different provider each time they start a new job.
He also said the incoming pensions dashboard initiative may encourage more people to think about pension consolidation as it will enable them to see all the different pensions they have built up over their life in a single interface.
Sir Steve said: “In both cases there will be a natural tendency to want to ‘tidy things up’ by consolidating small pensions in one larger pot.”
But he warned that by doing so some people may end up throwing away enhanced tax-free cash or early retirement options that come as a benefit with older pensions.
Accessing a pension pot also affects an individual’s lifetime allowance, which is currently £1.055m. But savers are allowed to take up to three ‘trivial’ pots of under £10,000 without them counting against the lifetime allowance.
Therefore, those who retain smaller pots rather than combining them effectively add £30,000 to their lifetime allowance, according to Sir Steve.
Also, those who take cash from a defined contribution pension may trigger a cut in their annual allowance from £40,000 to £4,000 due to Money Purchase Annual Allowance rules.
However, taking cash from a pot worth under £10,000 avoids this so those who consolidate their smaller pots may miss out on this benefit.
Sir Steve said: “As ever, the best approach is to seek impartial advice or guidance before consolidating pension pots.”