Does your work pension fund risk falling short in retirement?

They sound so comfortable and reassuring. ‘Lifestyle’ pensions conjure up images of a stress-free, fully funded world of easy living in your golden years. 

Millions of savers who have money in company pensions are automatically invested in these funds, which gradually reduce the risk of your investments as you near retirement.

They are designed to protect your hard-earned savings from the ups and downs of the stock market as retirement draws closer.

But research for the Mail and This is Money shows that these one-size-fits-all funds have done the very opposite – they actually lose savers money in real terms.

Worse still, you may not realise the damage that is being done until it is too late, leaving you permanently worse off and poorer in later life.

Just two of the 18 largest lifestyle pension funds in Britain succeeded in beating inflation over the past five years for those near retirement, shocking analysis by data firm Corporate Adviser Intelligence found.

On average, these funds had an annualised return of 5.0 per cent for savers who were coming up to retirement while inflation as measured by the Retail Price Index was 6.7 per cent over the past five years.

Thousands of savers in their 50s and 60s who are five to ten years away from retirement and who work for Britain’s biggest employers – including Lloyds Banking Group, Google and Amazon UK – will have seen their pensions lose out to rising prices as a result. All while the stock market has rocketed.

‘You may not realise the damage that is being done to your pension until it is too late, leaving you permanently worse off and poorer in later life,’ writes Patrick Tooher 

The MSCI World Index, which tracks the global stock market, had an annualised return of 11.8 per cent over that time. 

It means a poorer retirement for the millions of savers in these schemes, who would have been better off investing in the wider stock market. And it has happened without their consent.

Unless workers actively choose funds to invest in, they are automatically shoe-horned into one of these pensions. This is chosen by their employer.

Former pensions minister Baroness Altmann says: ‘Switching people’s money, without properly informing them of the risks – indeed leading them to believe their money was safe and at little risk – has led to losses that people in their 50s and 60s were never warned of.’

And the situation has just got a whole lot worse as a surge in borrowing costs caused by the Iran war is dealing lifestyle pensions yet another devastating blow.

Government borrowing costs last week jumped amid turmoil in the Labour Party and growing uncertainty over Prime Minister Sir Keir Starmer’s future.

Surges in bond yields have hampered lifestyle funds and those closest to retirement will be the worst affected. So what exactly are lifestyle funds? How can you check if you’re in one? And what can you do to safeguard your pension savings?

Who is affected by poor pension funds?

It is worth saying that if you are lucky enough to be a member of a ‘defined benefit’ (DB) scheme, where your pension is linked to your salary, you are not affected and can rest easy. Your pension is guaranteed by your employer.

But such schemes are now mainly confined to the public sector. They used to be common in the private sector until most companies decided they were unaffordable because of changes to pension and accounting rules.

In the private sector, so-called ‘gold-plated’ pensions have been replaced by far less generous ‘defined contribution’ (DC) plans, where savings are invested in a pot of shares and other assets.

The more these assets rise in value, the more money you have in your pension when you retire. But there is no guarantee they will rise – and many are failing to achieve inflation-beating returns.

Crucially, the difference between these DC schemes and gold-plated ones is that employees take on all the investment risks rather than the sponsoring employer.

These include the risk of running out of cash before you die – or the value of your pot collapsing just before retirement.

Investment performance is, therefore, key for millions of private sector workers.

A difference in annual returns of just 2 percentage points can amount to £185,890 for an average earner by retirement age, reveal calculations by investment platform AJ Bell. These are based on someone on the average wage who starts saving into a pension aged 22 and contributes the minimum 8 pc of their salary a year.

> How pensions work: What you need to know about saving for retirement 

What is a lifestyle fund?

Pension funds invest in a range of assets including shares, bonds and property. These assets all carry varying degrees of risk and reward.

Lifestyle funds were originally designed to give people enough cash at retirement to buy an annuity – a guaranteed income for life for anyone over 55.

Confusingly, lifestyle funds may also be called something else, such as a ‘target date’ fund or a ‘lifetime’ plan but they all basically do the same thing.

From aged 50 onwards, as people draw nearer their stated retirement age, their pension pots are gradually moved into ‘safer’ investments each year, such as cash and bonds and out of stocks and shares.

Until 2011, any member of a pension scheme had to buy an annuity by the age of 75 but this requirement was abolished when ‘pension freedoms’ were introduced in 2015. Instead of buying a fixed income for life, these changes allowed savers tax-free access to a chunk of their pension pots while remaining invested in growth assets such as equities.

The move reflected a shift in retirement patterns as more workers avoided the traditional ‘cliff-edge’ by working part time or flexibly as they got older, often opting not to take their pension all at once.

With increasing life expectancies, someone in their 50s may have another 30 or more years to live. Over that time horizon, history tells us shares will deliver significantly better returns and protection against inflation than bonds or cash.

Savers don’t know they are ‘lifestyled’ 

Most workers’ pensions are in lifestyle funds. Around nine in ten eligible employees in Britain save into a workplace pension, with some 21.7 million enrolled into such schemes.

However, recent research from wealth manager RBC Brewin Dolphin found that three-quarters of pension savers had never heard of ‘lifestyling’.

Many private sector workplace schemes switch members into lifestyle funds within six to ten years of their intended retirement date. This is usually the state pension age, which currently is 66 but is rising for anyone born after April 5, 1960.

The switch to lifestyling normally happens automatically, without your consent, and the fund will be managed by an investment firm selected by your employer.

These include household names such as Legal & General, Aviva, Scottish Widows, Standard Life and Nest, which alone has almost 14 million members.

You can opt out – but it’s up to you to do so. Few do.

How bad are the funds?

Christopher Mahon, of investment firm Columbia Threadneedle, says these lifestyle funds have underperformed by around 2.3 pc a year, which he calculates costs a typical £100,000 pre-retirement pot around £12,000.

But that’s just an average for every five-year period since 2013.

Some outcomes are much worse. Workers who have pensions face huge differences in returns depending on the pension provider selected by their company.

Savers near retirement whose pensions are with Scottish Widows are the worst off, according to Corporate Adviser Intelligence.

This includes more than 60,000 employees at Lloyds Banking Group and 20,000 other companies Scottish Widows provides pensions for.

For those within five to ten years of retirement, Scottish Widows’ lifestyle fund returned just 2.8 pc annualised over the past five years to the end of March.

Younger members are likely to have better returns as they have a larger proportion of their money invested in the stock market.

Similarly, those whose pensions are in Legal & General’s ‘target date’ fund will have achieved returns of just 3.1 pc annualised. This will affect up to 75,000 Amazon UK employees whose pensions are invested with the provider.

Scottish Widows were contacted for comment.

Legal & General said its lifestyle fund had ‘one of the lower risk profiles in the market’ which ‘helped protect members savings through periods of market volatility’.

The People’s Pension, one of Britain’s largest providers which runs pensions for 102,000 employers, returned just 3.3 pc on its lifestyle fund. It said the findings reflected the natural rise and fall of financial markets.

Adam Walkom, a financial planner at Permanent Wealth Partners, is no fan of lifestyling funds, which he says are ‘absolutely a weapon of wealth destruction’.

He cites the case of Martin, a 59-year-old man who was forced to retire early because of a disability.

His biggest pension pot, which was built up with a ex-employer, was worth almost £200,000 in June 2021. But by October 2023, it had shrunk to just £134,000 because Martin’s pension had been steadily ‘lifestyled’ into a gilt fund whose price crashed in the wake of the disastrous Liz Truss mini-Budget.

Baroness Altmann says: ‘Supposedly low-risk investments have two serious drawbacks that workers were never warned of.

‘First, low risk also implies low returns. And second, low risk does not mean no losses. I really believe lifestyling has been a serious error of judgment because it makes assumptions about individuals without any proper information.’

Why are lifestyle funds so poor?

Returns on lifestyle funds are much lower than those savers might reasonably expect to make elsewhere. These funds invest in cash and in bonds – which misleadingly are portrayed as ultra-safe.

As the Corporate Adviser report highlights, this type of fund is likely to make negative returns once inflation is taken into account the closer you get to retirement.

In other words, savers are missing out on better investment opportunities and they are likely to lose money in real terms if they do nothing.

It is only since the era of ultra-low interest rates ended in 2021 and bond prices began to fall that the shortcomings of lifestyle funds have been laid bare.

UK government bonds, known as gilts, in particular have been lousy performers recently. Interest rates – and therefore government borrowing costs – have surged in order to tame inflation caused by the twin energy shocks of Russia’s invasion of Ukraine in 2022 and then this year’s Iran war.

The current fears among traders of a lurch to the left if Sir Keir Starmer is ousted as Prime Minister – and the fiscal rules designed to curb borrowing and spending are loosened – have made matters only worse.

The yield – or interest rate – on 30-year gilts now stands at almost 6 pc – the highest since 1998.

Put simply, those planning to retire have a lot less in their pension pot than if they had stayed invested in shares.

‘If you own bonds in your pension, then you will find the value of your funds has fallen significantly, and there’s no upside,’ points out pensions expert Henry Tapper.

What can be done?

Lifestyle pensions may be a relic of a bygone era but change is afoot. Pension providers and regulators have come under growing political pressure to shift their focus to ensure better outcomes for savers in terms of investment growth.

However, savers can also take matters into their own hands.

Are you ‘lifestyled’?

If you are in your 50s or over, you should check your workplace pension to see if you have been switched into a lifestyle fund or if you will be in future.

Most pension providers will have a website where you can see which funds you are in, and how those funds invest your money.

Look out for the terms ‘lifestyle’ ‘target dated’ and ‘pathway’ – these are signs your pension is in one of these funds.

The sooner you act the better because the closer to retirement you are, the less time you have on your side.

Extend retirement date

Perhaps the simplest way to avoid being lifestyled too early is to extend your retirement date.

Most lifestyle funds begin the process of ‘de-risking’ your pension pot five to ten years before your stated retirement date – so pushing that out until later will delay the process and it will keep you invested in growth assets for a longer period.

This approach also avoids the hassle and potential cost of having to choose alternative funds.

Switching funds

You can opt out of a lifestyle fund at any time and re-invest your pot in more growth-oriented assets, such as equities.

But you must proactively choose your new funds, and you may want to take financial advice, which will cost money.

While these funds tend to perform better, they do take on more risk – so make sure you are happy with your choice before transferring your money.

However, it can take several weeks to set up the new fund, during which time your money will not be invested in financial markets at all.

Pay more into your pot

If you still have several years to go before you plan to give up your career, then there may be scope to make up for at least some poor performance in your pension by paying more in monthly contributions.

It is a good idea in any case to check regularly on how much you and your employer are putting into your pension and on the performance of your plan.