MSE News: 'Second line of defence' for pension savers to be introduced

jamesd

dunstonh wrote: »

So, at the moment, the compliance guidance is to continue to treat draw-down as a high risk transaction and only do it for those who can afford to do it.

Yet annuity sales are the higher risk transaction because they are irrevocable, most happen below optimal age and for standard health annuities all pay less than deferring the state pension for those eligible to do that. In the advised sector are you allowed to tell people that you don't want to sell them a standard annuity because deferring the state pension pays them more income for their expenditure?

I'm wondering, just how could you possibly construct a valid justification for a moderate value standard annuity sale to a person who qualifies for deferral?

dunstonh wrote: »

In cases of low-value full fund withdrawal, one compliance individual said that we should avoid transactional (one-off) cases of full fund withdrawal if you can as these have the potential to come back and bite you on the bum later when claims companies can no longer generate PPI complaints they will go looking for people that have spent all their pension money.

I think that's inevitable.

dunstonh wrote: »

CMC advert of the future: "Have you spent all your pension money? If so, then you can claim against xxxxxxx"

"Were you sold an annuity? Did the firm tell you that deferring your state pension would pay you more and refuse to sell the annuity to you until you insisted? If you were misled in this way, let us help you with your mis-selling complaint!"

dunstonh wrote: »

the FCA is there not just to look at historic problems (which is how the FSA was) but also look at potential future ones. I suspect that this is where they have concerns as it is certainly what the compliance companies are talking about and they get their steer from the regulator contacts they have.

My own prediction is that standard annuity sales are the next big successful claims business, because there is the gold standard deferring the state pension alternative available and all annuity sales businesses know or should know what that will pay compared to their products. It's a mis-sale by default.

dunstonh

Yet annuity sales are the higher risk transaction because they are irrevocable, most happen below optimal age and for standard health annuities all pay less than deferring the state pension for those eligible to do that.

Although a lot of that also makes them lower risk as they are guaranteed and cannot go down. It provides certainty. yes it lacks potential upside but it reduces potential downside.

I'm wondering, just how could you possibly construct a valid justification for a moderate value standard annuity sale to a person who qualifies for deferral?

Very easily and certainly a lot easier than a drawdown case.

"Were you sold an annuity? Did the firm tell you that deferring your state pension would pay you more and refuse to sell the annuity to you until you insisted? If you were misled in this way, let us help you with your mis-selling complaint!"

if someone needs an income in retirement, I am not sure how deferring the state pension and telling them not to buy an annuity would be a good idea.

My own prediction is that standard annuity sales are the next big successful claims business, because there is the gold standard deferring the state pension alternative available and all annuity sales businesses know or should know what that will pay compared to their products. It's a mis-sale by default.

I disagree with your reasoning as most people do not save enough for retirement and do not have the scope to defer state pension. It would also need to have an adviser employed to give retirement advice (so that rules out non-advised). it is generally regarded that advised annuity sales are of a much higher standard as they do shop around and advisers had enhanced annuities long before the in-house options did. I can only speak from my experience over the years and that most annuity sales are from relatively small pots of money, many of which would be classed as trivial now to people without much or any investment knowledge. The state pension is vital for their ability to retire and the annuity is the icing on the cake to give them just enough.

Drawdown has greater risks than annuity. Drawdown has greater upside but you have to ignore upside when considering risk. Capacity for loss tends to be King when it comes to risk. Knowledge and ability to understand comes into play as well as willingness to to take risks. However, capacity for loss trumps knowledge and willingness.

So, the minute someone says they want a secure income in retirement and doesnt have the cash savings or investments to support them then annuity is the option that is most suitable.

jamesd

dunstonh wrote: »

if someone needs an income in retirement, I am not sure how deferring the state pension and telling them not to buy an annuity would be a good idea.

It provides higher income in a lower risk product for the same cost.

dunstonh wrote: »

I disagree with your reasoning as most people do not save enough for retirement and do not have the scope to defer state pension.

We don't need to consider the case of those who have no money because they also can't by an annuity.

As soon as someone has the money to buy an annuity they have a choice. If they are around state pension age they can defer.

If they have say £10,000 they have a choice: they can buy an annuity or they can defer the state pension. either buys them higher guaranteed income. Here's how that works out today at say 65 state pension age for convenience. I'll assume £150 state pension and £10,000 in a pension pot available to spend, with a desire to increase secure income and normal good health. I'll also pretend that the £100k rates for annuities are available, though I know that's not going to be true.

Single life level annuity, no guarantee: £547.70 a year
Single life RPI annuity, 5 year guarantee: £320.30 a year
Defer for one year, inflation-linked, cost £7,800: £811.20 a year and £2,200 left over
Defer but after flat rate SPA: £452.40 a year and £2,200 left over
defer but after flat rate, use the £2,200 for longer deferring: £580 a year

I've ignored the income tax on taking the pension money or income for simplicity, since it doesn't affect the key result: deferring beats annuity in each case. I also ignored the annuity income during the deferral period since the focus is longer term, so I considered just the state pension income as the income needed while deferring. I also ignored the inheritability of deferral increases and the possible use of term life insurance to provide guarantee periods. If you think it matters you could include those in calculations of your own.

So tell me, why should I not tell such a person that they have been mis-sold an annuity and they should complain?

dunstonh wrote: »

It would also need to have an adviser employed to give retirement advice (so that rules out non-advised).

Not as I read the FCA's final guidance from this month, since it's not personal advice to tell them that in all cases the deferral beats the standard annuity. Nor would it be so if a table showing alternative income options at various ages was used to illustrate it generically, like the numbers I posted earlier.

dunstonh wrote: »

it is generally regarded that advised annuity sales are of a much higher standard as they do shop around and advisers had enhanced annuities long before the in-house options did.

I agree.

dunstonh wrote: »

I can only speak from my experience over the years and that most annuity sales are from relatively small pots of money, many of which would be classed as trivial now to people without much or any investment knowledge. The state pension is vital for their ability to retire and the annuity is the icing on the cake to give them just enough.

I agree right up to the annuity sales point, where it makes them poorer than deferring the state pension would have made them.

dunstonh wrote: »

Drawdown has greater risks than annuity.

We're not considering much in the way of drawdown here: take out the money gradually to spend while deferring, even using no investment other than cash during that time if desired.

dunstonh wrote: »

So, the minute someone says they want a secure income in retirement and doesnt have the cash savings or investments to support them then annuity is the option that is most suitable.

The annuity is not the most suitable. Deferring the state pension is because it is both safer than the standard annuity - no FSCS 10% loss potential - and provides a higher income for each Pound spent. An annuity is suitable, just not the most suitable, because of its lower income and higher risk.

It's really easy for me: if you sell a £10,000 standard annuity to one of your customers near to retirement age, I'm going to tell them to make a mis-selling complaint against you if they could have deferred instead. You're not unique. I'll be doing that for the sales of every annuity vendor when deferring is practical.

Selling a standard annuity when deferral is viable is an unethical business practice.

Since you've been doing it and may still be doing it I expect you maybe upset by that but if you are, please take a few steps back and look at the income numbers, then ask yourself how you can justify doing things when you know that they provide a lower and less secure income for life.

dunstonh

I dont get what you are are saying. If you have someone who hits state pension age and retires, they have nil income at that point. If they have an annuity that pays £4000 a year, how do you expect them to survive on that if that is their only income because the state pension has been deferred?

How can it be best advice to tell someone to move from say £24k p.a. (example salary) to £4k (annuity only) when they could get to £12k by having the state pension?

Triumph13

dunstonh wrote: »

I dont get what you are are saying.

If you want a really simple example:
Mr Jones is entitled to state pension of £8k pa. He has a pension pot of £17k and the best value indexed annuity he can get is 3%.


His two options are:
1) Buy an annuity paying £510 pa and have £8510 indexed income for life.
2) Draw the pot at a rate of £8,500 a year for two years (Year two's money invested in cash until drawn to avoid all risk) whilst deferring his state pension. He then has an indexed income of £8,928 for the rest of his life.


It's very hard to see how option 1 isn't a mis-sale.


Note, this is using the post 2016 deferral rate. Pre 2016 it's even more glaring.

SnowMan

dunstonh wrote: »

I dont get what you are are saying. If you have someone who hits state pension age and retires, they have nil income at that point. If they have an annuity that pays £4000 a year, how do you expect them to survive on that if that is their only income because the state pension has been deferred?

How can it be best advice to tell someone to move from say £24k p.a. (example salary) to £4k (annuity only) when they could get to £12k by having the state pension?

Working in real terms this is how it works. I'll use your figures of 8K state pension and 4K annuity.

For simplicity assume the annuity rate at 65 for an index linked annuity is 25 (i.e it cost £25 to buy £1pa of pension).

So your annuity of 4K must have come from a fund of 100K.

Now post April 2015, instead of using all the fund (=25 x 4 = 100K) to purchase your £4,000pa annuity, use just £79,200 to buy a pension, and take the balance of the £100,000 fund i.e. £20,800 out of the pension fund as an uncrystallised funds pension lump sum at age 65. And defer your state pension for a year.

The £79,200 will then purchase an annuity of £3,168 pa (= 79200/25). Add this to the £20,800 lump sum gives you £23,968 of income in year 1 (age 65)

The state pension is increased by 10.4% for year of deferral (for those reaching SPA before 6th April 2016) so deferring it for a single year gives you an extra £832 pa (8,000 x 0.104) of state pension.

So your total pension in subsequent years (having taken your deferred state pension at age 66) is £3,168 + £8,000 + £832 = £12,000pa.

So by deferring a year, and using a small chunk of you pension fund to cover your first year, you are getting £11,968 extra in year 1 (=23,968 - 12,000), and the same £12,000pa pension compared with if you had not deferred your state pension and used all your fund to buy a pension.

Defer for more than a year and use a more realistic annuity rate and the cost advantage increases.

A few obvious assumptions there, but that's the basic principle, and it reflects the generosity of state pension terms (especially for those reaching SPA before 6th April 2016).

dunstonh

His two options are:
1) Buy an annuity paying £510 pa and have £8510 indexed income for life.
2) Draw the pot at a rate of £8,500 a year for two years (Year two's money invested in cash until drawn to avoid all risk) whilst deferring his state pension. He then has an indexed income of £8,928 for the rest of his life.


It's very hard to see how option 1 isn't a mis-sale.

Option 2 is not available until next tax year. So, you cannot apply it to past years sales.

Now instead of using all the fund (=25 x 4 = 100K) to purchase your £4,000pa annuity, use just £79,200 to buy a pension, and take the balance of the £100,000 fund i.e. £20,800 out of the pension fund as a cash lump sum.

Why not buy a level annuity? Breakeven on an indexed one is typically around 23 years. Peoples spending tends to go down as they get older and the state pension will be indexed in payment so at least a good chunk (or the majority) of their income will be increased. Other issue is that you are effectively asking the person to give up their 25% lump sum to replace income and people with smaller funds tend to have smaller savings and this may be their last chance to have some capital behind them

A few obvious assumptions there, but that's the basic principle, and it reflects the generosity of state pension terms.

I get the principle and for larger funds there is merit there. However,most pots are much smaller than £100k. Looking back at my list over the years, the majority were under £50k. It doesnt work with the average sized pension.

Triumph13

dunstonh wrote: »

Option 2 is not available until next tax year. So, you cannot apply it to past years sales.
some capital behind them

Agreed - which is why I used the post April 2016 deferral rates.


I'll also agree that there is some wiggle room if you sell a flat annuity that starts at a higher rate than the state pension deferral will give.


But for future sales of any annuity that gives a lower starting rate than the one you get by deferring without offering better escalation than the state pension does it is surely absolutely clear cut.

Pincher

If it was a UK state pension in the 1970s, or a Greek state pension now, the confidence in the efficacy of deferral would be questionable.


An annuity provider dripping with the fat of profit is actually safer, because they won't fold. If I was to run an annuity company on a non-profit basis, selling good value annuities, sailing close to the wind on capital reserves, a single corporate bond failure could sink me.


Another consideration is the tax you pay when you draw down, which is no longer growing for your benefit. I have a sneaking suspicion that draw down is a ruse to get some money from pension funds onto George Osborne's balance sheet. If we all converted pension pots into annuities, when is the Treasury going to see it? I suppose you pay VAT when you spend it, but with draw down, you pay the tax, and then you pay VAT when you buy things.


If you just accept that there is risk whatever you do, I would rather leave the pot invested inside a pension wrapper, so all the money is growing for ME. I am growing quite fond of the With Profits model for parking my pension pot, if it could be structured in a draw down friendly way.


Let us say I have £100k in a pension pot. I transfer it to Pro Life. Pro Life invests it, and obviously the return goes up and down, but Pro Life smoothes it out , and declares that they will pay 4% for 2015, 3.5% for 2016, 5% for 2017 etc. on the amount I have invested, which is added to my £100k. If I don't draw down any, my pot just grows, so it's £104k, £107.5k, £112.5k etc. What I'm likely to do is to elect to take £1,000 a month. So at the end of 2015, I have:


£91,600 = £100k - £12k + £3,600


Under current rules, 25% of £12k is tax free, and I pay tax on the remaining £9k.


To manage the cash flow, Pro Life will need to have advance notice of my draw down schedule. I expect there would be penalty for ad hoc withdrawal requests.


I would also like to nominate the beneficiary on my death, so the remainder funds goes to whomever I choose, after the appropriate tax is paid, of course. If I had a wife, I would like it to stay in the pension wrapper, and goes into her pot.




I think the inherent flaw in this draw down business is, they REALLY DON'T WANT YOU TO SPEND IT, so 99% of uses you can think of is wrong in their book. Even putting it in a deposit account is wrong, because the interest is too low. Buying shares so you are investing is too risky. Just about the only two things you can do that will meet with approval is buying an annuity and buying a house to let out. I think what I propose above will come under the "right" choice.

jamesd

dunstonh wrote: »

I dont get what you are are saying. If you have someone who hits state pension age and retires, they have nil income at that point. If they have an annuity that pays £4000 a year, how do you expect them to survive on that if that is their only income because the state pension has been deferred?

How did they manage to acquire that annuity? You've injected a large chunk of capital somewhere to allow buying the annuity.

That same capital can instead be drawn on to provide them a substitute to their state pension income while they are deferring.