Get free updates - subscribe to our monthly newsletter Subscribe
Annuities – the method through which many pension funds are converted into a life-long income - have often been criticised for their perceived poor value. This refers mainly to the annuity rate available to individuals which determine how much income their pension fund can buy.
During the last 20 years, annuity rates have fallen significantly, due largely to increasing longevity. Other factors, including European legislation, are now threatening to cut annuity rates further. These include the effect of the coalition government's quantitative easing, the Euro crisis and the expected effects on annuities from the "EC Gender Directive", otherwise known as ‘G-Day’ which takes effect from this December, and the impending EU Solvency II funding rules for pensions.
If introduced, the Solvency II rules will force all EU insurance companies to hold more Government bonds (also known as gilts). This means that UK insurers, the annuity providers, will have to hold more gilts and, as gilt interest rates are lower than interest rates on other bonds (corporate bonds), annuity providers will have to cut the pension they pay out. This could reduce pensions by between five and 20 per cent.
Also, the EC Gender Directive rules will force annuity providers to offer the same pension rates to women as to men. Previously, women have had lower pension income because they are expected to live longer than men. After the end of 2012, this payment structure will be illegal and, even though life expectancy for women remains higher than for men, annuity providers will not be allowed to factor this into their pricing. This will increase the costs of buying annuities for all men and there may not be a fall in the cost of annuities for women because providers may increase their risk margins instead.
G–Day, will affect other financial planning areas also. Historically women have benefited when it comes to cheaper life assurance premiums because, on the whole, they typically represent lower risks than men. For example, women tend to live longer than men, so pay into their policy for longer and claim later. This pushes down the monthly cost of their cover. However, as the Gender Directive takes effect, such benefits are unlikely to exist and the cost of arranging most forms of insurance is likely to increase and become equal to the premiums paid by men.
Turning back to annuities, all these factors are likely to make it harder to extract a sustainable level of income from a pension fund, just as record numbers of Britons are reaching retirement.
Alternative ways of taking an income from a pension fund are available but, for many people about to retire, their funds are not large enough to consider different options to an annuity. However, none of this means that annuities are a poor investment. Those considering buying an annuity can still exercise their Open Market Option (OMO), and shop around the annuity marketplace for the best deal. There is no obligation to buy an annuity with the pension provider that they have been saving with.
All of this means that it is more essential than ever for individuals to obtain advice from an independent financial adviser, as to the best way of maximising their retirement income.
Investment values can fall as well as rise and you may get back less than you invest. Past performance is not a reliable indicator of future results.
Financial Planning Consultant
If you like this article and would like our FREE updates sent straight to your inbox then subscribe to our monthly newsletterSubscribe
All content © 2015 Armstrong Watson. All Rights Reserved. Website by Simon Pighills.
Armstrong Watson LLP is a limited liability partnership registered in England and Wales, number OC415608. The registered office is 15 Victoria Place, Carlisle, CA1 1EW where a list of members is kept. Armstrong Watson LLP is regulated by the Institute of Chartered Accountants in England and Wales for a range of investment business activities. Unless otherwise indicated, either expressly or by the context, we use the word “partner” to describe a member of Armstrong Watson LLP or an employee of Armstrong Watson LLP in their capacity as such.
Armstrong Watson Audit Limited is registered to carry on audit work in the UK and Ireland by the Institute of Chartered Accountants in England and Wales. Registered as a limited company in England and Wales, number 8800970. The registered office is 15 Victoria Place, Carlisle, CA1 1EW.
Armstrong Watson Financial Planning Limited is authorised and regulated by the Financial Conduct Authority. Firm reference number 542122. Registered as a limited company in England and Wales, number 7208672. The registered office is 15 Victoria Place, Carlisle, CA1 1EW. Armstrong Watson Financial Planning & Wealth Management is a trading style of Armstrong Watson Financial Planning Limited.
Armstrong Watson Trustees Limited is a limited company registered in England and Wales, number 84495656. The registered office is 15 Victoria Place, Carlisle, CA1 1EW.