The focus of much comment on annuities is what poor value they represent and the profit margins of providers. As with much comment on the subject, it is important to get into the detail for a truer picture.
- Gilt yields have, until recently, been falling for a long period
- Life expectancy has been increasing, thus increasing the period over which an annuity has to pay out
- A high proportion of people still don’t shop around and remain with their existing provider
- Many of them don’t obtain the enhancements to which they are entitled
Focus on high margins of some providers tends to taint the whole market and put people off doing what may very well be right for them. In a recent TV programme, it was pointed out that some providers’ rates would require a 65 year old to live to 100 before they received their money back.1 This implies a running yield of less than 3%.
Shopping around exposes people to a market with plenty of competition, this is called the “Open market option”. Going one step further and completing a medical questionnaire (it’s not that hard really) could open up the possibility of an even better rate.
As an example, in the open market a 65 year old with a £50,000 fund after tax-free cash could obtain a standard rate of £3,047 if they were healthy; a much more respectable running yield of over 6%.2 If they were a diabetic with high blood pressure, overweight and retinopathy insulin, the rate would be £3,902; a running yield of 7.8%. The payback period for the enhanced annuity would be 12.8 years. Assuming the claim referred to above is correct (it must be: it was on TV), this suggests it may be possible to double your income by taking advice.
In the first half of this year almost half of people that took the Open Market Option qualified for an enhanced annuity. We believe more could qualify. Of those that stayed with their existing provider, only around 5% obtained an enhanced annuity. 3 There is still a huge opportunity for people to improve their retirement by looking for a better annuity.
To make a simple comparison, the dividend yield on the FTSE-All Share Index is currently around 3.3%.4 While it is true that taking the income at this level would leave the individual with the fund when they die (and that you probably wouldn’t invest your client’s drawdown fund in one asset class), those requiring an income as high as one from an annuity will need to rely on a substantial level of growth to support that income – or see their fund depleted at an alarming rate.
Developments in the annuity market are making it easier to obtain quotes tailored to individual clients’ health and circumstances. Continuing growth in the number of people reaching retirement with DC funds offers an opportunity for advisers to improve the retirement prospects of thousands of people. It has never been easier to do so.
1Source: Dispatches television programme
2Source: Partnership, November 2013
3Source: ABI Sales Q1 and Q2 2013
4Source: FTSE Actuaries Share Indices