It’s ironic that a change aimed at making insurers more secure could have a devastating impact on the retirement income of the majority of people approaching retirement. Most people’s retirement ‘pots’ will be not be large enough to warrant leaving their funds invested after they start taking an income (through ‘income drawdown’), so they will need to buy an annuity. After deciding on the type of annuity they require – e.g. whether single or joint, level or escalating, ordinary or impaired, with or without guarantee – they then invest their pension fund to get an income for life, probably after also taking some tax free cash. Note – there will be more information on different types of annuity on the Wealth Club website soon.
This gives people the certainty most seem to want in retirement, that of a fixed income. However, in an attempt to ensure that insurance companies and banks are financially stable, a new set of capital requirements has been introduced, meaning insurers have to maintain more capital for risk management. This is a European initiative and known as the ‘Solvency II’ directive and will apply to all providers of annuity products in the UK. Final details are expected this year and it is likely to come into force in 2012. Its impact will be that annuities are likely to become more expensive.
This means that the incomes purchased are likely to be lower – experts suggest by up to 20%. If this happens, a 60 year old man with average life expectancy could effectively lose 5 years of income. Insurers are taking this seriously – Axa Sun Life said earlier this year this is the reason for their withdrawal from the annuities market.
Any clients considering taking an annuity in the next few years should be aware of this and should take advice – it is possible that rates will rise. You may be expecting stock market growth or be nervous of inflation damaging the spending power of your income. You may also be waiting for government plans on removing the need to buy an annuity at 75 to become clearer.
