Andrew Tully: Justice is served over pension death benefits

Andrew Tully White background 700

Since the freedom and choice regime was introduced almost a year ago, there has been enormous focus on the numbers of people cashing in their pension pot or being targeted by scammers.

These are clearly crucial areas but another very significant change appears to have been missed in some quarters. April also introduced much better death benefits to annuities. At a stroke, this removed a key downside, meaning people can now get value from their annuity whether they live or die.

The new rules mean an annuity can pay an ongoing income for 20 or 30 years, irrespective of when death occurs, or pay a lump sum equal to the initial purchase price less income taken, giving families peace of mind the money invested in providing a secure income will not be lost.

This removes the understandable sense of financial injustice that was sometimes felt when an annuitant died early.

Changes also mean beneficiaries will pay less tax on the annuity death benefit than previously, and no tax at all if death occurs before age 75. Even on death after age 75, advisers can help mitigate the tax impact.

For example, rather than leave all benefits to a partner who may pay income tax, some could be left to a grandchild who can receive some income or lump sum tax-free.

More than one in seven of our annuity quotes over the last year has included guarantee periods of greater than 10 years or value protection, showing many are aware of and value the new options. However, we still see a lack of awareness of the new choices among many.

Perhaps there is a perception that longer guarantee periods will be very costly but the simple fact is the impact on starting income is fairly low.

If you think about a longer guarantee as an insurance against dying early, the cost is similar to insuring your car, or even your pet.

If we look at a typical £50,000 annuity purchase, for a 65-year-old, the base income could be £2,719 a year, with no guarantees attached.

If you recommended using a 20-year guarantee, then that income would be £2,534, or £185 less.

Things get more interesting with even longer guarantees – for example, with a 30-year guarantee, the annual income is £2,327 (£392 a year less than no guarantees) but this gives the certainty that at least £69,810 will be paid. Potentially a small price to pay for a return of capital plus a further 40 per cent.

If people wrap their annuity within a drawdown structure, these death benefits are even more flexible with the ability to commute the income guarantee to a lump sum.

There is also even greater tax control as beneficiaries can withdraw funds at a time that best suits their circumstances. While the annuity may have been somewhat overlooked since pension freedoms came in, giving people the comfort of an income guarantee and the certainty their family will benefit should they die may well be an appealing proposition, especially in these uncertain and volatile market conditions.

Andrew Tully is pensions technical director at Retirement Advantage