Annuities - why all the hate?

Albermarle

Fermion said:

I've been in Drawdown now for 8 years with a large DC pot that has grown by 38% in that time even though I've been drawing 3.7% per annum income. 

I hadn't considered an annuity previously because our plan was to pass our pension pot to our 2 adult children as it was outside the scope of IHT but Rachel Reeves budget and the consultation findings has made us think again. I've recently converted just under 1/3 of my Drawdown pot (£300K) into a level annuity with 100% spouse joint life and 5 year guarantee paying £25,087 per annum. My wife has done the same but with with all of her smaller pot. Not only does this significantly reduce any future IHT liability but it also reduces the impact of future major stock market falls whilst the market is high and annuity rates are good.

I also agree with snowlaser that I don't want the headache of trying to manage the admin of rapidly reducing my drawdown pot when I'm in my 80s. 

Having gone through in detail I can see a lot of Pros and not many Cons

I follow most of the logic behind getting an annuity discussed in this and other posts, but I do not quite follow this onepoint.

Not only does this significantly reduce any future IHT liability 

Although your pension pot will be smaller, you will have an higher monthly/annual income.
If you do not spend it, then it will build up in your estate ( as savings etc) so you will slowly increase any IHT liability, probably at some point to back where you started, or possibly even worse.

If you do spend it, then without an annuity you could have presumably just drawn more income from your DC pot, which would also have reduced your IHT liability.

In reality increased spending and gifting are the key points for reducing IHT liability, not whether you get an annuity or not. It is possible it might help, as there so many different possible circumstances, but from an IHT perspective ( under the new rules in 2027)  you are just shifting money from pension to the rest of your estate.

MetaPhysical

OldScientist said:

MetaPhysical said:

Annuities are an expensive comfort blanket.  However, they have a place for some people and I can see their attraction in some cases.  However, I still maintain they are an [expensive] comfort blanket.

Think of it in a different way and ask yourself this question:  You hand over your pot in exchange for the annuity.  Cool, so why would the annuity provider actively compete with other companies in the hope you give your pot to them?  Because they can make a handsome return and profit on that money whilst still giving you some of it back as your annuity payments.  They will invest it - just like you could do.  If they as a business want your money to invest, then with some knowledge and understanding it must be an almost certain bet (otherwise they wouldn't do it) , and they will want a return of at least 5-10% on top of giving you your payments.  So why not cut out the middle man - the annuity provider - out and invest it yourself and keep all of the returns?

Expensive compared to what?

For example, at 65yo, a single life RPI annuity currently had a payout rate of 5.3% (e.g., see https://www.williamburrows.com/calculators/annuity-tables/ ) with the worst 4.8% (so there is competition between the companies)

An inflation linked gilt ladder guaranteed to last a lifetime at 65yo will need to be at least 35 years (taking the retiree to 100yo) with a payout rate of 4.0% (see https://lategenxer.streamlit.app/Gilt_Ladder )

Constant inflation adjusted drawdown to match the annuity (5.3%) or ladder (4.0%) will last an unknown amount of time (historically somewhere between 15 years and upwards of 40 years for the former and 23 years and upwards of 40 years for the latter - future failures are unknown).

People are reading my contribution to the thread thinking I'm saying something along the lines of "don't take an annuity".  I'm not saying that at all and indeed said quite clearly I can see their attraction in some cases and I applaud anyone that feels that this is the best for them.  Good for them and I wish them well.

What I am saying is that with a little research and personal learning development, for example some of the excellent threads on this forum from very knowledgable people and from people like Pete Matthews, James Shack and others via their books and YouTube,  you can keep all the money that the insurance company would have made and keep it for yourself.  I absolutely get that the annuity guarantees you an income and insulates you from the market.  However, that is an expensive security blanket in my opinion when you could have made double the money, maybe more, what the annuity will pay you.

QrizB

MetaPhysical said:

I absolutely get that the annuity guarantees you an income and insulates you from the market.  However, that is an expensive security blanket in my opinion when you could have made double the money, maybe more, what the annuity will pay you.

And equally, your "little research and personal learning development" could see you running out of money before you die.

What chance of failure are you willing to tolerate?

(Insert Dirty Harry meme here.)

Bostonerimus1

MetaPhysical said:

OldScientist said:

MetaPhysical said:

Annuities are an expensive comfort blanket.  However, they have a place for some people and I can see their attraction in some cases.  However, I still maintain they are an [expensive] comfort blanket.

Think of it in a different way and ask yourself this question:  You hand over your pot in exchange for the annuity.  Cool, so why would the annuity provider actively compete with other companies in the hope you give your pot to them?  Because they can make a handsome return and profit on that money whilst still giving you some of it back as your annuity payments.  They will invest it - just like you could do.  If they as a business want your money to invest, then with some knowledge and understanding it must be an almost certain bet (otherwise they wouldn't do it) , and they will want a return of at least 5-10% on top of giving you your payments.  So why not cut out the middle man - the annuity provider - out and invest it yourself and keep all of the returns?

Expensive compared to what?

For example, at 65yo, a single life RPI annuity currently had a payout rate of 5.3% (e.g., see https://www.williamburrows.com/calculators/annuity-tables/ ) with the worst 4.8% (so there is competition between the companies)

An inflation linked gilt ladder guaranteed to last a lifetime at 65yo will need to be at least 35 years (taking the retiree to 100yo) with a payout rate of 4.0% (see https://lategenxer.streamlit.app/Gilt_Ladder )

Constant inflation adjusted drawdown to match the annuity (5.3%) or ladder (4.0%) will last an unknown amount of time (historically somewhere between 15 years and upwards of 40 years for the former and 23 years and upwards of 40 years for the latter - future failures are unknown).

People are reading my contribution to the thread thinking I'm saying something along the lines of "don't take an annuity".  I'm not saying that at all and indeed said quite clearly I can see their attraction in some cases and I applaud anyone that feels that this is the best for them.  Good for them and I wish them well.

What I am saying is that with a little research and personal learning development, for example some of the excellent threads on this forum from very knowledgable people and from people like Pete Matthews, James Shack and others via their books and YouTube,  you can keep all the money that the insurance company would have made and keep it for yourself.  I absolutely get that the annuity guarantees you an income and insulates you from the market.  However, that is an expensive security blanket in my opinion when you could have made double the money, maybe more, what the annuity will pay you.

This is the way DC pensions have always been sold over annuities/DB pensions. It expresses a basic optimism and faith in markets, but it's not necessarily a sensible approach to long term income generation. The use of the "could" in your ending conditional sentence is a classic bit of FOMO. All conditional terms should be used very carefully when planning for the future. You should stress test a plan by assuming the worst as well as the best.

MyRealNameToo

MetaPhysical said:

OldScientist said:

MetaPhysical said:

Annuities are an expensive comfort blanket.  However, they have a place for some people and I can see their attraction in some cases.  However, I still maintain they are an [expensive] comfort blanket.

Think of it in a different way and ask yourself this question:  You hand over your pot in exchange for the annuity.  Cool, so why would the annuity provider actively compete with other companies in the hope you give your pot to them?  Because they can make a handsome return and profit on that money whilst still giving you some of it back as your annuity payments.  They will invest it - just like you could do.  If they as a business want your money to invest, then with some knowledge and understanding it must be an almost certain bet (otherwise they wouldn't do it) , and they will want a return of at least 5-10% on top of giving you your payments.  So why not cut out the middle man - the annuity provider - out and invest it yourself and keep all of the returns?

Expensive compared to what?

For example, at 65yo, a single life RPI annuity currently had a payout rate of 5.3% (e.g., see https://www.williamburrows.com/calculators/annuity-tables/ ) with the worst 4.8% (so there is competition between the companies)

An inflation linked gilt ladder guaranteed to last a lifetime at 65yo will need to be at least 35 years (taking the retiree to 100yo) with a payout rate of 4.0% (see https://lategenxer.streamlit.app/Gilt_Ladder )

Constant inflation adjusted drawdown to match the annuity (5.3%) or ladder (4.0%) will last an unknown amount of time (historically somewhere between 15 years and upwards of 40 years for the former and 23 years and upwards of 40 years for the latter - future failures are unknown).

What I am saying is that with a little research and personal learning development, for example some of the excellent threads on this forum from very knowledgable people and from people like Pete Matthews, James Shack and others via their books and YouTube,  you can keep all the money that the insurance company would have made and keep it for yourself.  I absolutely get that the annuity guarantees you an income and insulates you from the market.  However, that is an expensive security blanket in my opinion when you could have made double the money, maybe more, what the annuity will pay you.

It's insurance and therefore a risk transfer mechanism. Since pension freedoms it's become a choice if you think the cost of the risk transfer is worth the price or not. 

Obviously insurers make a profit overall, they are at the end of the day a for profit company, but if you zoom into an individual they do make losses on individuals and thats with their economies of scale. 

So yes, in principle, the average person would be better off not buying any form of insurance but that is of little consolation if you are the person who's house burns down or who lives to 110 etc. 

Several have made pertinent points here too though particularly to investments... how do you know what your mental and technological skills are going to be like when your in your 90s? Who's going to take over managing your portfolio when you have lost the skills to do it yourself? 

LHW99

IMO Annuities may reasonably come to play a larger part in many people's planning when / if many of the remaining DB schemes close to new members.

Ensuring basic income is protected with SP + Annuity makes the longevity or otherwise of remaining pension funds much less of an issue.

MetaPhysical

I'm not disagreeing with any of those points folks.  Again, I state that annuities work for many people, especially anyone lacking cognitive capabilities, or even for people who frankly CBA with all this and would just rather hand it over and get an annuity.  Even then though, I'd argue that a good IFA or FP could, for a percentage, operate your drawdown mechanism on your behalf and you'd get more money than an annuity would pay.   As to getting too old to operate drawdown by yourself you can take an annuity at that stage when you're older in a "fire and forget" way.  I think annuities are just so expensive if you want to build in basic indexation.  I concede that I am 58, mathematically minded and able to operate drawdown myself.  Not everyone is.

Bostonerimus1

MetaPhysical said:

I'm not disagreeing with any of those points folks.  Again, I state that annuities work for many people, especially anyone lacking cognitive capabilities, or even for people who frankly CBA with all this and would just rather hand it over and get an annuity.  Even then though, I'd argue that a good IFA or FP could, for a percentage, operate your drawdown mechanism on your behalf and you'd get more money than an annuity would pay.   As to getting too old to operate drawdown by yourself you can take an annuity at that stage when you're older in a "fire and forget" way.  I think annuities are just so expensive if you want to build in basic indexation.  I concede that I am 58, mathematically minded and able to operate drawdown myself.  Not everyone is.

A drawdown approach is certainly one many people find attractive. However, you need to appreciate that many people cannot afford to take the risk of a 20% or 50% fall in the markets and an IFA won't protect you from that and they will still take their 1% while you are losing money. Your income streams should be diverse and annuities should not be compared with investments because they are insurance. If you have as much optimism about your lifespan as you do in markets then an annuity should be a strong consideration.

Albermarle

Bostonerimus1 said:

MetaPhysical said:

I'm not disagreeing with any of those points folks.  Again, I state that annuities work for many people, especially anyone lacking cognitive capabilities, or even for people who frankly CBA with all this and would just rather hand it over and get an annuity.  Even then though, I'd argue that a good IFA or FP could, for a percentage, operate your drawdown mechanism on your behalf and you'd get more money than an annuity would pay.   As to getting too old to operate drawdown by yourself you can take an annuity at that stage when you're older in a "fire and forget" way.  I think annuities are just so expensive if you want to build in basic indexation.  I concede that I am 58, mathematically minded and able to operate drawdown myself.  Not everyone is.

A drawdown approach is certainly one many people find attractive. However, you need to appreciate that many people cannot afford to take the risk of a 20% or 50% fall in the markets and an IFA won't protect you from that and they will still take their 1% while you are losing money. Your income streams should be diverse and annuities should not be compared with investments because they are insurance. If you have as much optimism about your lifespan as you do in markets then an annuity should be a strong consideration.

Anybody in a long term drawdown, will see many drops in the market, as part of the normal ups and downs over a 30 year period. So you can afford to take the risk, as it is part of the plan.
Of course a prolonged downturn of say a decade could hurt, as could a 50% drop in the markets, but hopefully in the latter case you would not be invested so aggressively as to take the full brunt.

Linton

Albermarle said:

Bostonerimus1 said:

MetaPhysical said:

I'm not disagreeing with any of those points folks.  Again, I state that annuities work for many people, especially anyone lacking cognitive capabilities, or even for people who frankly CBA with all this and would just rather hand it over and get an annuity.  Even then though, I'd argue that a good IFA or FP could, for a percentage, operate your drawdown mechanism on your behalf and you'd get more money than an annuity would pay.   As to getting too old to operate drawdown by yourself you can take an annuity at that stage when you're older in a "fire and forget" way.  I think annuities are just so expensive if you want to build in basic indexation.  I concede that I am 58, mathematically minded and able to operate drawdown myself.  Not everyone is.

A drawdown approach is certainly one many people find attractive. However, you need to appreciate that many people cannot afford to take the risk of a 20% or 50% fall in the markets and an IFA won't protect you from that and they will still take their 1% while you are losing money. Your income streams should be diverse and annuities should not be compared with investments because they are insurance. If you have as much optimism about your lifespan as you do in markets then an annuity should be a strong consideration.

Anybody in a long term drawdown, will see many drops in the market, as part of the normal ups and downs over a 30 year period. So you can afford to take the risk, as it is part of the plan.
Of course a prolonged downturn of say a decade could hurt, as could a 50% drop in the markets, but hopefully in the latter case you would not be invested so aggressively as to take the full brunt.

How much potential return are you prepared to forego to protect yourself against possible 30%-50% equity falls? There is a good reason why SWRs are so low, far below what one naively would have thought reasonable.  At some point a 6% inflation linked annuity at 70 with zero risk and zero worry may look rather more attractive for covering your essential spending than the 3.5% SWR which cannot be 100% Safe.