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UK government to consider impact of pension reforms on infrastructure investment

The UK government will consider the effect that fundamental changes to the way in which people can access their pension savings could have on the amount that insurers and pension funds invest in infrastructure, the Exchequer Secretary to the Treasury has said.

Speaking to industry publication InfraNews, David Gauke said that the issue was "certainly something we are looking into as part of our consultation on the proposals". Gauke was responding to concerns raised by the publication that the proposals would reduce the number of annuities being purchased in the UK, with a corresponding reduction in the funds available to institutional investors for infrastructure. An annuity is a policy from an insurer that converts a pension fund, or part of a pension fund, into a regular pension income for the remainder of the policyholder's life.

As announced as part of the 2014 Budget, members of UK defined contribution (DC) pension schemes are to be given more freedom to access their pension savings without having to buy an annuity or face heavy tax penalties. Some of the changes take effect today while the government is currently consulting on the more fundamental changes, which would come into force in 2015.

According to InfraNews, a reduction in the number of annuities being purchased as a result of the changes could reduce the amount of money insurers have to invest in UK infrastructure. The Treasury's consultation document states that around 20% of the £11 billion invested in annuities in the UK each year is invested in assets such as infrastructure, while around 60% is invested in corporate bonds.

In an interview with the Financial Times this week, life insurance firm Legal and General (L&G) predicted that the annuity market could reduce in size by more than a half once the changes come into force. Adrian Boulding, the firm's pensions strategy director, said that annual sales could ultimately shrink to between £4.4bn and £6bn once the changes had bedded in.

However, pensions expert Simon Laight of Pinsent Masons, the law firm behind Out-Law.com, said that it was highly unlikely that money that would otherwise have been used to purchase an annuity would disappear from the pensions environment altogether once the changes took effect. Although withdrawals would no longer be subject to the same tax penalties under the proposals, most of the money saved in a pension pot would still be subject to income tax if withdrawn, he said.

"Undoubtedly some retirement money will leave the pensions system, as people are tempted to use money at retirement for holidays and new cars," he said. "But you lose a lot to income tax if you do that."

"Instead, most retirement money will stay in the pensions environment because it has tax advantages. Rather than buying annuities, consumers will look for investment solutions that provide a combination of income streams and capital guarantees for given periods of time, to cater for the early part of their retirement. Annuity providers will look to develop clever investment solutions, or DIY annuities, for the burgeoning drawdown market - they just won't use the word 'annuity' in the product title," he said.

L&G was one of six major insurers to commit to collective investment in UK infrastructure worth £25bn over the next five years as part of the 2013 Autumn Statement. Pension funds themselves are also beginning to warm up to the low risks and potential returns of investing in infrastructure through the industry-backed Pensions Infrastructure Platform (PIP).

"If the strength of the PIP and other institutional investors to make investments in infrastructure has been weakened by the Budget announcement, then this presumably raises the stakes for project finance investments from other sources: Chinese money, those banks which are still lending, other sovereign wealth funds," said infrastructure expert Jonathan Hart of Pinsent Masons.

"There may be some early tests of this in the next couple of months, with the starting gun about to be fired in respect of potential investors into the infrastructure provider for Thames Tideway," he said.

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