The falling value of annuityPosted on: 11 January 2010 by Gareth Hargreaves
Like the R-word (retirement), the words pension and annuity are fast becoming conversation stoppers among the over 50s. Nick Bamford looks at the reasons why annuity has become a dirty word.
We have witnessed the start of a campaign to abolish the “P” word. This is because people are apparently put off by the word “Pension” so financial sector pundits are searching around for a more appropriate, user friendly word. I would like to start a campaign to end the “A” word. Few people understand what an Annuity is. The financial instrument used to convert capital into income (the annuity) is under threat not just from a name change. Here are some reasons why you may not get as large an annuity income in retirement from your p-fund. On a daily basis I get asked “should I defer taking my benefits to allow the fund value to recover from the past two years of poor or negative returns?” My answer is usually “don’t delay”. Why is that?
If you are deferring taking your benefits in the expectation that your annuity rate might be higher in the future then I can think of more reasons why it won’t be higher than reasons why it will.
Improving life expectancy
We may as a nation be getting more morbidly obese, drinking more heavily and generally abusing our bodies but strangely life expectancy is improving. Annuity providers are therefore under some pressure to reduce the annuity rate. After all, they will potentially have to pay out for longer.
Special rates for impaired lives
If you buy your annuity and you are for example a smoker or perhaps have a history of heart disease then you may be offered special (higher) terms. The reason is fairly obvious in that you are not going to live as long as an “average life” Unfortunately those of us of average life expectancy were going to share in some of the profit made by the annuity provider when you die too soon! So because you have been selfish and purchased an enhanced or impaired life annuity we miss out on that profit and end up with generally lower rates.
Our view on this one is that as the Government issues more Gilt Edged Securities (Gilts) this will have the affect of reducing gilt yields. Sadly annuity providers match the liabilities that they have in the annuity market with long-term gilt yields and therefore the economic mess the Government has got us into will also exert downward pressure on annuity rates.
EU Solvency II
The EU was bound to stick their nose in! This bit of EU legislation should come into force in 2012 and our view is that it will force Life Assurance firms (the providers of annuities) to have to set aside more capital to cover their liabilities and this again will put downward pressure on annuity rates.
Do you still want to defer taking your pension benefits and be in the frustrating position of having a bigger pot of money in your retirement fund and still end up with a lower retirement income? Take advice if I were you.
Nick Bamford is a Chartered Financial Planner at Informed Choice.
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