Annuity rates have plummeted to such a low level that they are no longer a ‘viable option’ for many retirees it has been argued. Industry expert Williams Burrows says that…”…these pension savers are caught between a rock and a hard place. Standard annuities are at an all-time low and offer no protection against inflation, and rates look set to fall still further.” The problem is also that the main alternative to buying an annuity, income drawdown, incurs a level of risk as your future income level is based upon the performance of investments. In the past few weeks we have seen examples of many of those with an income drawdown plan see their income fall by as much as 50% due to poor investment performance. On top of that drawdown customers also incur charges for the administration of the plan which further eats into an already shrinking retirement income. And because gilt yields have fallen back so far, partly because of the impact that quantitative easing, the GAD rate has been reduced from 120% to 100%, meaning the maximum amount that can be withdrawn has also been reduced. Mr Burrows commented that he thought middle income savers had been ‘ill-served’ by the pensions industry.
As rates for annuities are so low and drawdown has become a less appealing alternative there has been a lot more attention being paid on other options. These include fixed-term annuities, which allow retirees to receive an income from their pension pot without committing all of their fund and being locked into a rate for life. Although they offer greater flexibility they have been criticised in some quarters as also being a risky option because they “…place a large bet on markets and longevity in a manner that is uncertain” according to John Pollock From L&G. Whatever your view on fixed term annuities they have certainly grown in popularity, reflected in the record performance for specialist provider Just Retirement who reported at 35% jump in annuity sales in Q1.
Aside from fixed term annuities the other main option on the table for retirees is that of investment-linked annuities. Because these are annuities they offer an income for life but this could go up as well as down due to investment performance. The stock market has not performed well over the 12 months so many will be wary about taking this option. One solution it seems is what is being dubbed ‘low cost income drawdown’. This is not a product which is widely available at present but what it does do is offer a lower risk alternative to an orthodox drawdown plan. Two companies that are planning to launch this product include Retirement Angels as well as AllianceBernstein. This new product will seek to reduce some of the costs associated with drawdown including fund management fees, admin fees and adviser commission. With many drawdown customers being enrolled on plans that only review every five years, they can be faced with a steep drop in income if the performance of the investments have been poor. Another issue is many of those who bought drawdown have had the majority of their money invested in equities which are perceived as high risk and thus may not suit those in retirement who need a sustainable income. This new low cost drawdown product will reduce costs by not including actively managed funds. Instead it will use “passive funds” which is essentially a combination of bonds (which are lower risk) and some equities. The result will be that management fees will be brought down from 1% to 0.25%.
Despite the problems of low annuity rates they will still for many be the best option when approaching retirement. However a low risk, lower cost investment option should be welcomed as it gives a greater choice and more flexibility to those with modest pension pots.