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Tradeable annuities: A lifeline for retirees or potential misselling disaster?

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It’s official: pensions are “in”. They are actually (sort of) interesting and, following the Budget, “normal” people increasingly want to talk about them. Most experts I speak to agree this represents an enormous opportunity for advisers and the wider financial services sector.

But there is also an election on the horizon and politicians are sniffing around for ways to win votes and shake up the market (again).

Last week, Money Marketing pensions reporter Sam Brodbeck revealed the Treasury had summoned senior industry representatives to discuss the idea of creating a “secondary” annuities market.

With the final Coalition Budget due to be delivered by George Osborne next month and pensions minister Steve Webb pushing for the idea to be given teeth before the general election, a consultation looks to be a racing certainty. The very fact the industry is being kept in the loop will be a relief to many, given the “shock and awe” tactics employed by HMT in the Budget announcement and the subsequent reforms to death tax rules.

The big question policymakers and the industry are already wrestling with is straightforward – is it a good idea?

For politicians (and particularly the Conservatives), the calculus is fairly simple. The May plebiscite looks set to be the closest in decades and the retired demographic will be voting in their droves, so for Osborne and Co any policy proposal that appeals to pensioners will be hugely attractive. Given how popular the Budget reforms have been with the electorate (so far at least), allowing people to cash in their annuities is a politically attractive extension to the changes. It would certainly play well to Telegraph and Mail readers who, rightly or wrongly, believe they have been sold a poor value product by their provider.

But popularity itself does not ensure a policy is a good one, and some experts believe allowing the industry to offer people cash for their existing guarantees will inevitably see savers lose out. This is because “hyperbolic discounting” – whereby most people valuing money today over money tomorrow – will provide a ripe opportunity for the industry to siphon cash from consumers.

Hargreaves Lansdown head of pensions research Tom McPhail also warns that competition in the “secondary” market would be no guarantee of value for money.

He says: “Steve Webb wants to create an active secondary market for annuities and that will ensure people get good value.

“But the rather more simple proposition of selling someone an annuity in the first place failed to create a competitive market. There is no obvious reason why the market in reverse would be any better.

“You could potentially bundle up a book of annuities and sell them on the market, but then you get into life settlements territory and selling those to retail investors doesn’t look great.”

McPhail suggests if the reform is taken forward an advice requirement, similar to that proposed for DB to DC transfers, may be needed to prevent vast swathes of the population giving up valuable guarantees for cash.

Clearly allowing people to reverse an existing contract creates huge complexities and potential risks. But the Tories and LibDems are hungry for votes and, in pensions, they have lasered in on an easy target.

A period of stability post-April? Don’t count on it.

Tom Selby is head of news at Money Marketing

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Comments

There are 17 comments at the moment, we would love to hear your opinion too.

  1. I can’t see the FCA being too keen on advisers recommending that their clients giving up valuable annuity guarantees in return for cash and more costs.

    Does this advice have any chance of ever meeting the suitability criteria?

  2. The key isn’t the guarantees per se, but the “value” placed on them by either the ceding insurer or the third party who is going to receive the income. The issue with this is whether the individual knows something about their health that the other parties do not know. To deal with this, i would have thought that it might be likely that an individual is asked to undergo a medical….this feels a lot like impaired in reverse.

  3. We all know the bloke who mooted this idea. I hope there is a vacancy for him at his local psychiatric hospital.

    So the client started with £100,000 with which he purchased an annuity 5 years ago. It pays £5,000 p.a So do you really think he’ll get £75,000 back? Of course he won’t. There will be all sorts of deductions and he might be lucky to get £65,000 in his hand.

    But that is only if (and what a big if that is) someone is willing to pay. Will this then have to be underwritten on the new owner’s life? Will it be joint? So what will the new owner get? Let’s say someone is willing to pay £60k for it, what will the seller do now? Unless he is terminally ill, it isn’t much of a decision is it.

    From the buyer’s point of view he may get a 5% return IF he is old enough. And why would he do that? The net return (and anyone who can stump up £60k is likely to be HRT) is likely to be 3%.

    Anyone with just one brain cell will realise that (if he is married) he could spend £60k over 2 tax years on ISAs and get a tax free return and access to the cash.

    Whichever way you want to cut this particular cake I really can’t see how it would benefit a buyer and unless the seller is about to meet his maker it isn’t a bright idea for him either. (PC Note – for him you can also use her).

  4. Client Comes First 16th February 2015 at 8:33 pm

    Keydata MkII !?
    Who is going to market these things?

  5. As one with grey hairs in the industry, I note that the debate often forgets that many of today’s retirees enjoyed guaranteed annuity options- broadly pretty standard until the mid nineties. They represent a guaranteed interest rate of close to 10%. Many of the closed life books are rubbing their hands that at least some ( maybe 25 %) of these are small and customers will take the cash. A tradable market means they would get at least something nearer to fair value

  6. Has anyone explained how the cash from selling an annuity would be taxed? If the client sells an annuity for £50,000 would he be taxed at 40% on the excess above the higher rate threshold? I suppose the purchasing insurer could pay tax on the continuing income. But that would be (AFAIK) at 20% so the Treasury would lose out where a higher rate taxpayer sold an annuity. Not sure they’d be keen on that.

    Does a policyholder actually own an annuity or is it, like any personal pension, owned by the insurer in trust for the annuitant? If this is the case then cashing in an annuity would surely be a pension withdrawal and therefore taxable as income in full.

  7. Life Settlement Plans (Keydata for example) logically are bad for the insurer and good for the seller (whether they were a good idea for the buyer or not depends on whether we are talking theory or what happened in practice i.e. poor regulation of the Dr’s in America assessing life expectancy and pore custodianship re stolen £100 Million or so from under someone’s nose including the FSA)
    As to this idea, in theory it is likely to be of more benefit to the providers than the consumer, although for small pots if a fair value can be agreed for both parties, I can see an argument for having a blanket agreement to unwind. If the Government think it is such a good idea, perhaps they should buy them to create the primary market before selling them on the secondary market to recover the sums.
    I supposed the FCA could ask the Financial Services Consumers Panel for their opinion of it as Dr Debbie Harrison thought life Settlements were such a good idea that she wrote a glowing report on Keydata Life Settlements (and has not publicly commented on them since Keydata’s collapse). Perhaps the FCA better not ask Peter Smith or Margaret Cole what they think of the idea though as the former issued guidance after Keydata’s collapse which effectively banned their use for retail clients and Margaret Cole went even further and called all Life Settlement products “toxic”.

  8. There are arguments for and against this innovation. I think Harry makes very good points as to how the buyer of traded annuities would potentially benefit compared than other alternatives, and as for the seller there is a very great risk that the “Market value” they would receive for cashing in their guaranteed income stream could be considerably lower than they ought to accept. There is potential for so many smokes and mirrors, and it is hard to see how a “market” would function efficiently. My overall view is that there is a very great potential for ignorance and short-term thinking on the part of sellers to be exploited by the “market makers”. I don’t even think buyers would benefit from this ignorance, but there would be potential for enormous profit-making by the market makers and “advisers”. If annuities are to be reversed, I would think that it should be by the mechanism of in effect cancelling the contract and “selling it back” to the insurer. The insurer would be forced to provide a “fair value” which would be actuarially calculated and made openly available for any regulatory checks to ensure fairness. And indeed the annuitant could be required to be underwritten and to undergo a medical to assess health and lifestyle. To me this would not provide attractive outcomes, and I think the option would not be taken up by many. A secondary market would not in my view provide better outcomes for the selling annuitant for the reasons given. It sounds attractive to be able to access pension freedoms, but the cost and potential for market abuse is enormous compared to the potential benefits for annuitants.

  9. I now agree with Brian Gannon. I think the better idea is a statutory basis for buy back by the provider with both parties having to want to agree to proceed on that statutory basis or NOT at all. That way if the provider wants to buy out uneconomic smaller plans, they can offer MORE than the statutory fair value to unwind.
    Let’s not go down a secondary market method as personally if the FCA stand by what Margaret Cole and peter Smith said while at the FSA, then to allow/push this they will be showing they are NOT as independent of the Treasury and Govt as many advisers suspect/accuse them of.

  10. Client Comes First 17th February 2015 at 10:25 am

    This is a “can of worms” there would have to be a secondary market otherwise the annuity provider would not give fair value as there would be no incentive. The cost to arrange this would erode small fund values and tax would erode large fund values. The providers will be very cautious based on medical information which means those with the greatest desire for cash will get the least. There would be the loss of cross subsidy advantage which is one if the best reasons for taking an annuity. This subsidy would go direct to the providers bottom line.

  11. @CCF – There doesn’t have to be a secondary market if the calculation is a staturoty basis and both parties have to agree to unwind with the provider allowed to offer more than the statutory unwinding payment should they prefer. I do however agree it is a “can of worms” and probably best left untouched.

  12. I suppose buyback is more of a pragmatic possiblity – would have to factor in mortality drag/gain though, otherwise ot would be open to selection against the insurer.

  13. thanks Phil, you put it better and more succinctly than I could have done.

  14. I would suggest that the people most likely to want to swap their guaranteed income for a lump sum will either a) be suffering from ill health and therefore have a shortened life expectancy or b) be desperate for cash. Would either be offered value for money? Or would their circumstances be taken advantage of?

  15. Myself and some fellow pensioners do look at this website and find your information and comments both interesting and informative. You may have noticed our comments here before.
    Just how Webb can advise those of you in the pension business how changes should be made when he cannot provide a minority of pensioners abroad their state pension annual uprating without using lies and deceit to continue it beggars belief. I hope that whenever he is in your midst you will question him about it. Being abroad our chances of a face to face are remote.

  16. @George – I agree with you and it stinks to high heaven with these double standards.
    Don’t hold your breath about any of us advisers EVER getting to speak directly to these shysters as they view most advisers still as salesmen and little worse than what they have trodden in, while if you have watched the recent BBC programmes on MPs you will probably, like me, be not far off loosing all respect for them.
    We’ve seen them in action, they’ve not seen most of us and unlike them we only remain in business at the behest of our clients and the largest threat t us and our clients is often the very MPs who are elected.

  17. The main problem with this idea is that the FCA will stand by and allow the market to dictate itself for far too long before Which? forces them to review it and impose some rules. Once the rules are imposed they will then state that all sales before the rules are suspect and the public should review them to see if they got real value from the transaction. Cue another miss-selling scandle.

    I can’t see anyway in which a buyer is going to offer to purchase an annuity at a value that a third party would agree with as fair. For third party read – FOS, Claims Co’s, Which?, the Public, Daily Mail etc etc

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