A key part of the automatic enrolment ideology is that employee inertia will result in their accrual of a pension fund. While this may help the government drive people into saving, the same inertia is presumably a factor in a third of all retirees taking the annuity offered by their current pension provider without shopping around.
The Government’s aim is for individuals to create an additional pension pot and bolster their state pension entitlement, which is only likely to reduce in the future due to the effect of our ageing population. A pension pot on its own will not suffice; at some stage it must be used to provide an income.
By 2018, the introduction of automatic enrolment is expected to create an influx of 11 million new pension savers. The knock on effect is projected to treble the size of the annuity market and it is essential the annuity market properly services these customers.
In its recent consultation, ‘Better workplace pensions: a consultation on charging’, the DWP demonstrated in its four client scenarios that the lifetime effect of reducing annual management charges from, say, 1.00 per cent to 0.75 per cent resulted in a increased fund value of between 3.2 and 8.4 per cent.
The long term effect of annual management charges has made news headlines and sparked movements such as the Which? ‘Hands off my pension’ campaign which looks to pressure politicians in to capping management charges at 0.5 per cent for qualifying schemes.
In light of this, it is surprising to discover how comparitively little attention is focused on the fact that, according to the NAPF and Pensions Institute, between £500m and £1bn in lifetime income is estimated to be lost each year as a result of savers being tied into annuity rates which are not market leading. This could represent up to 8 per cent of the annual annuity market.
This runs the risk of undermining the work being done to reduce charges in the accumulation stage of pension saving if the pension pot is converted into an income which is significantly below the best market rates.
While most annuity providers do not publish their annuity margins as they are ‘commercially sensitive’, it is believed these margins are generally in excess of 15 per cent. The danger of customers not shopping around is that they provide less incentive for providers to compete with OMO competitor rates.
Buying an annuity is a unique financial experience, where having saved for some or all of their working life the purchaser makes a one-off decision that can greatly affect their retirement.
To ensure best customer outcomes within qualifying schemes should the default position be that customers must seek the services of an annuity broker or bureau? This would allow the force of customer inertia to lead them to a better annuity than they might receive from their existing provider.
Having a competitive at-retirement market where more customers are compelled to shop around for the best annuity deal would hopefully allow competitive forces to increase annuity rates. It could also lead to innovation and better products as providers try to differentiate their offering.
Eventually, it might even prompt more customers to seek advice and ensure that when making this crucial decision they better understand the implications of their actions.
Mark Pearson is business development director at Origen Financial Services