Low annuity rates

Although there are now several alternatives to buying an annuity from an insurance company when you retire, for most people, this more traditional route is likely to be first choice. So why are rates so low at the moment?

Annuity rates have been on a downwards trend for decades

For those with more modest pension funds at retirement, annuities can offer a low cost way of securing an income. However, the return available is now considerably less than at almost any point in the last two decades.

For example, the annuity rate for a 65-year-old man in April 1991 was more than 14%; now it is less than 8%. During the same time gilt yields, on which annuity rates are heavily dependent, have fallen from just over 10% to about 4%. The rate of decline for gilts has been slower than for annuity rates.

The reason for this is that annuity rates also depend on life expectancy – the longer we live, the more payments the insurance company has to make for a given pension fund value at outset; and we are now living much longer than our parents’ generation.

Fund values
Unfortunately, there is another factor that influences how much pension we actually receive and that is the value of the fund built up whilst working. Investment conditions have conspired against most savers during the past five years or so, but this has been compounded by the fact that pension funds (like ISAs) can no longer reclaim the 10% tax deducted at source on dividends from UK companies.

Since most pension funds will have a high percentage of UK shares within them, this has had a major impact over the 13 years since (then Chancellor) Gordon Brown made this change in his first Budget. In fact conservative estimates put the cost at £5 billion a year.

Choices need to be made now

What can we do about this?
Clearly, those who are close to retirement now will have limited options. Those that are available include the most important fact that pension plans usually allow the individual to seek the best annuity on the market, rather than having to take the income offered by the insurance company concerned. This is called the “open market option” and seeking professional advice could make a significant difference even for those with modest funds.

If you have some time to go before retirement, you should:

• Review your pension plans to ensure that you are not tied in to high charging old-style policies;
• Look at the performance of your funds to ensure that they have not slipped, compared to the general market;
• Check that the asset allocation strategy is still consistent with your overall aims and that you are not exposed to greater risk than allowed for in your current thinking;
• Make sure that your level of contribution is realistic compared with your current income and retirement goals.

These steps are not ones that can easily be undertaken in isolation, because there are so many factors to consider. However, seeking professional advice will help you address the key issues as they affect you and help you to prioritise action in order to give you the best chance of achieving your retirement goals.

It is important always to seek independent financial advice before making any decision regarding your finances. For further information, please contact SDB Strategic Planners Ltd. The value of investments is not guaranteed; you may get back less than you put in.

NOTHING CONTAINED IN THE ARTICLE SHOULD BE CONSIDERED AS GIVING INDIVIDUAL FINANCIAL ADVICE. PLEASE NOTE THAT THERE MAY BE VARIATIONS FOR THOSE LIVING IN SCOTLAND AND NORTHERN IRELAND. 

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