21st June 2014
While retirees no longer have to buy an annuity with their pension pot, many may still opt to secure their income later on in life.
Chancellor George Osborne used the March Budget to announce that no-one will be forced to buy an annuity but although commentators were quick to ring the death knell for the annuity market, Andy James, head of retirement planning at financial advice firm Towry, said the cries may have been over-exaggerated.
A survey by Towry has show 76% of retired people did not take out an annuity during their first year of retirement but the products played a useful part in later retirement years. For many the changes to the pension drawdown rules, which have made pensions more flexible, will give them the opportunity to mix and match retirement solutions to suit their lifestyle and use both drawdown and annuity to fund retirement.
‘You do not have to buy an annuity with all your pension funds at the same time – you can decide to phase the annuitisation of your investments over a period of years, if required,’ he said.
James said there are five main reasons why annuities will still the right choice for retirees.
1. Poor health
For those with poor health or unhealthy lifestyles, annuities could provide an increased retirement income. This is because those who insurers believe will live for fewer years than average qualify for an ‘enhanced annuity’.
‘Buying an annuity is one of the few times in life when suffering poor health could be a ‘good thing’,’ said James, adding the regular income received from an annuity could also help to pay the cost of long-term care.
2. Attitude to risk changes
Taking investment risk is easier when you are younger as you can make up for any bumps in the stockmarket over the longer term. While you may be prepared to take some investment risk at the beginning of your retirement, as you grow older it may become less attractive.
‘Income drawdown, the traditional alternative to an annuity where income is drawn directly from invested funds, requires regular reviews and careful monitoring which is more expensive and complex,’ said James. ‘Therefore, particularly as you grow older and the cost of your retirement becomes clearer, the comfort of greater certainty and simplicity may outweigh the risks of greater flexibility, making an annuity a more attractive option.’
3. Death of a spouse
While the death of a spouse may means the person left inherits extra capital and income, costs are likely to remain the same, said James. Not only can an annuity ensure those costs are covered but a single person will receive a larger income from an annuity as it only has to cover one life rather than two.
‘The certainty that an annuity brings may…provide a very welcome counterbalance for the uncertainty you may be experience after bereavement,’ he said. ‘Also the cost of a single life annuity will be lower than that of an annuity looking to provide benefits for a partner as well.’
4. Changes to legislation
Securing an income through an annuity is one way to limit exposure to further government tinkering of the pensions rules. Although there have been widespread and radical changes already, there is now talk of amendments being made to pensions tax relief- mostly capping or cutting higher rates of relief.
‘’With pensions tax relief being a hot political topic, changes have been frequent and further amendments cannot be ruled out,’ said James. ‘In such an environment, many may decide that the uncertainty of political decisions and parties in power could negatively impact on their own retirement fund. An annuity provides stability in the form of regular lifetime payments, which has survived relatively unchanged regardless of party politics.’
5. Depleted assets
While drawdown may suit needs in early retirement to fund a holiday or a new car, James said after the big ticket items have been bought or cruises taken an annuity may be the next best solution.
‘Once that objective has been met, you may find yourself with a smaller fund for the rest of your retirement, but also less of a need to continue investing for a specific reason,’ he said.
Overall, James said retirees should make sure they take advice to prevent the risk of running out of money and ensuring retirement goals are met.
‘While the above reasons are some of the most common reasons why retirees may decide to annuities, the fact is that everyone’s circumstances are unique to them,’ he said. ‘Therefore it is essential you seek personal financial advice to help you understand your goals and aspirations as well as your financial fears and attitude to risk.