Andrew Tully: Avoiding secondary annuity regrets

Andrew Tully White background 700

In less than a year’s time, people will have the ability to trade in their annuity for a lump sum. However, there remains much uncertainty and, with no less than four consultations currently running, it is unlikely the final details will emerge before the autumn. This gives scant time to build the infrastructure and little definite information that can be given to customers now.

It seems clear many providers will allow their existing annuitants to trade in their income should  they wish to do so. Doing otherwise puts them in the firing line for blocking customer freedom.

However, it is less clear how many buyers will participate in the market, and the fewer buyers there are the higher the risk people will get poor value.

Buyers will need significant capital reserves and a willingness to take on this kind of monetary  risk. They will also require knowledge of longevity and the impact of health and lifestyle on it. This starts to feel like a relatively small list.

One of the obvious potential buyers is annuity providers using the second-hand market to back their annuity book in the same way as they invest in corporate bonds, equity release and commercial property.

While it has not given a definitive view, the Prudential Regulation Authority’s initial indication is that these assets will not qualify for the matching adjustment under the new Solvency II regime.

In other words, if providers wish to use secondary annuity assets to back some of their annuity book, the capital requirements will be higher. Unless providers can agree some restructuring with the PRA, it will make buying second-hand annuities less attractive than other asset types.

There is also a considerable “moral hazard” for buyers. If a seller omits details about their health and dies shortly afterwards, the buyer will either have to accept the loss or try to recover some funds from the deceased’s family. Neither feels particularly palatable.

As giving up a guaranteed income stream is a risky and complex decision, people with annuities over a certain level will need to take advice before they can proceed. Despite the four open consultations, we currently have no suggestion what this threshold will be, and whether it will be a capital value or income level that will trigger the advice requirement.

There is likely to be a market for advisers willing to give advice in this area, although many may not want to get involved.

That said, current or previous customers that have annuities may come to you as the first port  of call, so you need to have a position on whether you can help these people or where you direct them to.

It is clear why some people may want to trade their annuity. For many, a lump sum in their hand to use as they choose is of greater value than an ongoing income stream they do not really value.

This means there is a real risk many with lower-value annuities may sleepwalk into a poor-value offer, which they could regrettaking in future years.

 Andrew Tully is pensions technical director at Retirement Advantage