Income drawdown vs annuity purchase at retirement

caveat_emptor

There has been much written in the press of late on the pros of the annuity and the cons of drawdown plus a lot of discussion on this board. For me the annuity numbers don't add up, but I'm sure you'll correct me if I'm wrong.
A 65 year old man can get 7%/annum return on a level annuity and expect to live for another 17 years. On the face of it a good return as he makes 19% on his capital over his lifetime.
But the net cost to the provider is not 7% but 7% less the investment return on the capital sum, say 4%. If 1% is allowed for charges, the net cost to the provider is now 4%, or the capital is reduced by 4%/year. So now the 65 year old living a further 17 years receives back only about 50% of his capital.
There is the benefit of guarantee and peace of mind but this comes at a price that for me is too high.
The critics of drawdown cite the falls in the stock market of 4/5 year ago but fail to mention the longer term or indeed the recent short term growth.
For me the attraction of drawdown is its flexibilty in that I can change my investment at any time I like and I can vary my drawdown (within limits) to suit my needs and to minimise my tax. If I pop my clogs today my fund is passed to my family less of course the Chancellor's cut.

deemy2004

Annuties are purely a money making machine for the insurance companies - As you mention they get money for FREE ! On average 50% free of the pension fund values.

Thats excluding sensible growth levels...

Look even index linked gov stock would have provided a return including income of over 25% over the last 2 years - THATS 25% !!! Against a crummy 12% annuity ! for giving up your capital !

I hope they scrap the 75 rule by the time I reach retirement age... so that you can have income drawdown indefinetly and thus your capital is left to your relatives rather than the bloomin insurance companies profits !

caveat_emptor

deemy2004 wrote:

I hope they scrap the 75 rule by the time I reach retirement age... so that you can have income drawdown indefinetly and thus your capital is left to your relatives rather than the bloomin insurance companies profits !

The rules have changed or are about to be changed to allow non-annuity pensions after 75.

Cav

deemy2004

caveat_emptor wrote:

The rules have changed or are about to be changed to allow non-annuity pensions after 75.

Cav

And any evidence links for the above ?

caveat_emptor

deemy2004 wrote:

And any evidence links for the above ?

Go to http://www.a-dayadvice.co.uk/adayeffects.html and look at Retirement Options. Latest changes come in to force next April (A-Day).

EdInvestor

The rules have changed or are about to be changed to allow non-annuity pensions after 75.

This is a first step. At least annuities are no longer compulsory:) But IMHO more change is needed: why can't the existing drawdown rules simply be extended until the person dies?

The Revenue seems determined to stop people from leaving what remains of their pension fund to their family (after 35% tax). Why?

And why is there a need to reduce the person's top income limit after aged 75 to 70% of what it was before?

Pal

The Revenue couldn't care less whether or not people use drawdown their whole lives and then die, paying 35% tax on the assets before it passed to their estate. As long as the revenue gets its tax, it doesn't care.

The point of the current rules on annuities and drawdown is to stop people spending their pension savings or investing their drawdown funds badly and then falling back on state benefits when they run out.

Find a way around this problem that doesn't involve annuity purchase and you might be onto something.

Personally I think that the rules on annuities should be kept, but that the tax regime should be improved to encourage more people to make use of pension annuities.

For example, force everyone to buy a pension annuity on retirement up to (say) £15k a year, inflation linked, with a contingent spouse's pension of at least 50%. The entire pension is then paid out tax free, although the investment gains within the annuity could be taxed as income if necessary.

Above the £15k p.a. limit, the entire remaining value at retirement can be taken as tax free cash.

Now that would certainly encourage me to save more for my retirement. People would be throwing inheritances and lump sums in like there was no tomorrow.

In the end annuities are just a form of bond investment with the individual's longevity risk removed. However the Government could do a lot to make them more attractive to the average retiree, before everyone ends up being missold drawdown SIPPS that they barely understand.

EdInvestor

The point of the current rules on annuities and drawdown is to stop people spending their pension savings or investing their drawdown funds badly and then falling back on state benefits when they run out.

Oh really. Why do they assume everyone is going to run out? THe drawdown rules strictly limit how much income you can take to a bit above the annuity level, so this seems unlikely.It's impossible to blow the money through spending it.

I suppose it's possible to lose a lot through poor investment: and I must say that IMHO there has been some very poor investment advice given in the past ( DO NOT, for instance, invest your drawdown in a With profits fund :rolleyes: )

But it's not really that hard to derive a growing income from drawdown if you cut the costs to the absolute minimum ( sack that IFA), invest direct where possible and get the asset allocation right.

Most people who have adequate money for a drawdown will already have enough index linked pension to cover their basic needs, they won't end up claiming from the state, that's tosh.The Revenue is not interested in that ( I wish it was!) it is only interested in rich people avoiding tax.

caveat_emptor

EdInvestor wrote:

But it's not really that hard to derive a growing income from drawdown if you cut the costs to the absolute minimum ( sack that IFA), invest direct where possible and get the asset allocation right.

I would dispute that 'it's not really that hard to derive a growing income from drawdown' because it depends on the markets but 'Sack the IFA' is very good advice. I sacked mine when I found I was paying a commission for an end of year statement that I got from the scheme Trustees for nothing. I did have problems with the drawdown provider but in the end I won.

Pal

The Revenue is not interested in that ( I wish it was!) it is only interested in rich people avoiding tax.

If that was true, why is the revenue just about to INCREASED the amount of tax advantaged pension benefits that the vast majority of high earners can take after April 2006?

EdInvestor wrote:

Oh really. Why do they assume everyone is going to run out?

Because the revenue assumes that everyone is an idiot, as it wants to minimise the potential drain on the state.

I suppose it's possible to lose a lot through poor investment

Understatement of the year perhaps?

THe drawdown rules strictly limit how much income you can take to a bit above the annuity level, so this seems unlikely.It's impossible to blow the money through spending it.

Which is exactly what I was saying. The drawdown rules are there to protect the state system from people blowing their pensions and then claiming benefits when they run out.

Most people who have adequate money for a drawdown will already have enough index linked pension to cover their basic needs, they won't end up claiming from the state, that's tosh.

One would certainly hope so. In fact if they have enough to purchase an index linked pension to cover their basic needs, why not require them to prove it by requiring them to buy an index linked annuity up to a minimum level, but then allowing them to take all of their excess funds as tax free cash?

But it's not really that hard to derive a growing income from drawdown if you cut the costs to the absolute minimum ( sack that IFA), invest direct where possible and get the asset allocation right.

And this is the problem isn't it? How do you educate a largely investment ignorant population on correct asset allocation and direct investment? How do you ensure that they continue to monitor their investments as they get older, more risk adverse and their health begins to fail? You could educate school children about investments, but how many of them are going to remember it when they come to retire? An enforced programme of education for everyone who is about to retire perhaps? Ignoring civil liberties issues, it would no doubt cost more than the state benefits that it would save.

A cheaper alternative for the Revenue is to require everyone to buy an annuity, removing the asset allocation and direct investment problem entirely. Alternative they could require everyone to get advice from someone who does know what they are talking about. Someone with investment qualifications and experience of working in that market. Like a qualified IFA perhaps?
Or perhaps they could require everyone who is undertaking income drawdown to pass an exam proving that they are competent. The SIPP providers could cover the cost of the examinations and pass it onto the SIPP investors through their fees. Of course these exams would then be needed every five years or so to make sure that the individual is still capable of making investment decisions as they get older.

Instead of using hindsight to constantly take misguided (and frankly offensive) pops at IFAs all the time, why don't you try suggesting a constuctive alternative for a change?
Come on, explain to us how the EdInvestor retirement utopia would work.