John’s Blog No. 102 – Pensions – Annuities

Annuity values are now at their all time lowest value causing uncertainty, suffering and misery at retirement to the point of uselessness. Forty years of patient pension provision are wasted in the short time available to decide, they are now outdated and unreliable.

They suffer from the speculative nature of the present commercial markets, unsuitable for dependable long term savings. Based mainly on Government Bonds which should be stable, they have become increasingly susceptible to supply and demand and the “quantitive easing” buy back makes matters worse.

 They arose from the need for a guaranteed income from a given individual pension fund, which were secured by Insurance Companies who balanced up the risk of whether the money would last longer than you This risk was reduced by  combining individuals into groups in which one person’s death was to the gain of the survivors.

The funds still had value and earn their keep, hence the dependence on the stable return from Bonds, at one time in the 1980’s there gave returns as high as 16%, with a £100,000 fund yielding £16,000 per year income, now you can expect at best £3,500 (3.5%) for a joint life increasing with inflation, to £5,800 for a single person with no increase.

At 3.5% on a straight draw down earning nothing, tucked under the bed, the fund would last 29 years, nine years longer than female life expectancy, if it earned enough to keep pace with inflation, draw down could do the same. This illustrates the absurdity of annuities today, which in fact perform at half the level they could do and should yield at least a 6% inflation proofed pension on a modest 4% earning power.

Retirement is one of the big steps in life and deserves preparation, at least six months before the great day arrives you should start looking at the pension options and planning budgets and how you will manage. If you are in a Company or Public Sector scheme, your Employer should provide you full details, otherwise in a defined contribution scheme you will need details of Fund value and expected Annuity returns.

 One of the main problems with Private pension schemes is that the State, Revenue and even provider act as if the money belongs to them and they are allowing you to use it, not that it is your savings by right. As a result there are strict rules on what you can do, the short timescale to decide and at what age you can do it.

In general, you can retire from 55 with penalties in DB schemes; DC schemes are dependent on adequate Fund values, also Funds from AVC’s (additional Contributions) and surprisingly SERPS rebate are treated more easily, in fact you can retire on a SERPS fund at 55, whilst S2R is not until 65,66….

The various options for consideration are:-

Drawdown – the Revenue will allow this if the Fund is over £100,000, but they assess the amount annually, which can inccur charges, usually drawdown rate  is 6%. The big advantage is you still have the money and control it, decide on investments and pass it on in the event of early death. If you have other income, you can draw down what you need up to the limit, giving a safety net and possibly less tax liability. You lose the group mortality advantage.

Annuity – this is the general option, but becoming less cost effective. In exchange for your Pension Fund you are given a guaranteed income for life at an agreed rate, however because of large fluctuations, often in weeks, the outcome is uncertain after a lifetime of saving and when it is too late to correct it.

Like all insurance products e.g car and home it pays to shop around, particularly as it is a one off deal with no chance to change your mind. Your current provider will probably not give the best offer initially so it is important to check comparison web sites and get various quotes and don’t be afraid to ask for all options. These are:-

5 year Guarantee – payment is guaranteed for the first five years and usually reduces annuity by very little

Single or joint life – allows payment to continue for partner, usually at a reduced rate was 2/3rds now 50%

Level or increasing – rises to meet inflation was 5% now 3% although 2.5% is norm and average over recent years.

 Male or Female – life expectancy for female is some two years longer, hence the difference.

Joint life is based on female life expectancy, normally worthwhile but check cost, particularly if both have good pensions. The difference between level and inflation proofed is quite large, at 2.5% £1 now is worth 62p in 20 years time,  a single life pension at £5,800 would be worth some £3,600 in real terms, almost the inflation proofed value plus the extra money for 20 years, also the amount needed to live on at 85 is much less than the more active 65, so you could manage on the decreasing real term value, so check the quotation figures.

To be continued.