IN a significant pre-Budget announcement on pensions, the Treasury will now consult on how best to establish a market for second-hand annuities. This will be a popular option with many of the five million or more people who have bought annuities in recent years.
Annuities have become much worse value since the start of this century, but people were still forced to buy them as there was no other way for many to take money out of their pension funds.
The rules required anyone who wanted to withdraw some cash from their pension savings to “secure an income” and if they did not have very large amounts in their fund, they had no other option – they had to buy an annuity.
Those with large funds did not have to annuitise, but the vast majority had no choice. And, until now, once they had bought the standard type of annuity, they had no chance to change it, they were stuck with it for life. (Selling the annuity income might have been theoretically possible, but would face a tax charge of between 55 and 70 per cent, so this was not a realistic option.)
Of course, the Chancellor’s last Budget swept away those old rules, but those who had already bought an annuity seemed stuck. Not now though. A consultation will start tomorrow on how best to establish a market for second-hand annuities.
Why might people want to sell their annuities?
They may have significant other pension income – this pension fund might have been an AVC (Additional Voluntary Contribution) fund that supplemented a guaranteed final salary pension. Someone receiving £20 a week from a £20,000 AVC, might prefer to have a cash lump sum, even if the amount is discounted for transaction costs.
They may have large debts, or a mortgage that they want or need to repay
They may need money to pay for health or care needs or other urgent spending.
If someone has become very ill and is unlikely to live long, or needs to pay for care, they might find a lump sum more useful, even if it is much less than their original pension.
People who had several pension pots and annuitised them might now prefer to take some as cash, or leave them invested in a new-style drawdown fund.
From April 2016, the Government intends to start a market for people who want to sell their annuities to the highest bidder. The amount they receive in exchange for their annuity income can either be taken as a lump sum, taxable as income, or put into a pension drawdown product and any withdrawals would then be taxed as income.
Most people will probably decide to hang onto their annuity, but many may have good reasons to want to consider selling it on. They will not be forced to, it will be up to them, but at least they will have the choice to do so, whereas until now their fund was gone forever.
Isn’t there a risk of another mis-selling scandal? Of course there are risks. But the risks are no different to those which exist under the new pension rules and allowing people the option to cash-in just addresses some of the unfairness between the past and the future. Commentators have criticised the proposals on the grounds that customers are likely to receive very poor value, and be charged unfairly high sums to cash-in their annuity. They note that people often received very poor value and paid high charges to buy the annuity in the first place and will now lose out a second time. It is certainly true that many people bought unsuitable annuities, but that is not a reason to deny them the chance to undo the deal.
Given the risks of customers receiving poor value, the Treasury needs to ensure that the FCA regulates the second-hand annuity market carefully. Customer protections must be put in place, since pricing an annuity is a complex transaction and, especially if there are few players in the market initially, it is important to have checks and controls on pricing structures to ensure customers are treated fairly. The Government is also planning to ensure that the Pension Wise service will offer people financial guidance so they understand the risks of selling their annuity and help them find a good rate – although ideally, they would take independent financial advice.
Nobody will have to sell their annuity, it will be their choice.
Unlike when they purchased it, they will not be forced to cash it in and many will not wish to. However, giving them the option is only fair. Many of those who bought annuities understandably feel aggrieved that their money has gone to an insurer in exchange for a relatively low income with no inflation protection, whereas future pension savers can enjoy full freedom to choose what is best for themselves. This is a popular and sensible decision which will be warmly welcomed by many.
Dr Ros Altmann is a pensions expert and the Government’s champion for older people.