PensionsOct 28 2014

‘Fair value buyouts’ pitched for trapped annuitants

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A controversial suggestion by pensions minister Steve Webb that he would like to see a future solution for trapped annuitants unable to access pensions reforms has elicited a storm of protest - and now a new suggestion of a system that could work on the basis of a ‘fair value buyout’.

One senior industry figure, who wished to remain anonymous, suggested that rather than rule changes compelling companies to offer return of funds, providers might instead offer a market solution in the form of an offer to buy out the remaining annual payment obligation.

The payment would most likely include an assumed discount to account for potentially detrimental effects on mortality cross-subsidy assumptions of people opting out.

For tax purposes the lump sum would probably be treated like a withdrawal from a pension fund, with a minor legislative amendment required to allow the sum to be placed back within a pension pot, for example if the individual wished to put the fund in a drawdown policy.

The plan is similar in some respects to one of several suggestions from government older workers tsar Ros Altmann, who suggested providers could offer an out to clients if “the will is there” and that this could involve policyholders paying a “penalty for breaking the contract”.

An adviser commenting on an FTAdviser article on the subject last week also backed such a move, saying: “... [I]f an annuity provider wants to unwind and make an offer... including a penalty and both parties agree that is what they want, I don’t see a problem with that.”

However, there seems to be little of the “will” cited by Ms Altmann from providers, with several spoken to by FTAdviser dismissing the suggestion on the basis that it would undermine cross-subsidies, underlying assets are too illiquid, and it would likely cause rates to fall.

John Lawson, head of policy at Aviva, said: “In any insurance pool, you’re transferring risk from the poor risks to the good risks, so effectively one subsidises the other. Good risks can benefit, through enhanced annuities for instance, however, we still need to underwrite people on the way out.”

Andrew Tully, pensions technical director at MGM Advantage, agreed, explaining that as an annuity is a pooled contract the provider will want to take into account the other annuitant members to ensure any transfer out does not come at the cost of those who remain.

Ms Altmann had recognised this concern, stating “those most likely to cash-in may be those in poorer health leaving the insurer exposed to more risks than they planned for”. She said this could simply be “factored into the penalty applied”.

Mr Lawson also pointed out that it is a popular misconception that annuities are mostly held in government and corporate bonds, with most holdings in other long-term instruments like commercial property, infrastructure and commercial loans.

“You can’t get out of these things easily. It might take years rather than days; there’s no ready market for these assets.

“The reason you hold them is because they provide a better risk-adjusted return than gilts over the longer-term and we can live with the illiquidity because you’re providing that income over 25 or more years.”

Mr Tully concurred transfer outs could have an impact on underlying assets, perhaps forcing them to be sold or pushing providers to choose shorter-term lower-yielding assets in the first place, which would have an impact on annuity rates.

He added that if a customer believes they have been mis-sold an annuity - for example sold a conventional annuity when they have a health condition - there are existing routes for complaint, such as the Financial Ombudsman Service.

Stephen Lowe, group external affairs and customer insight director at Just Retirement pointed out that Mr Webb’s points were made in a personal capacity and only seemed to take into account those annuity deals done since the Budget changes.

He said: “We made a point of contacting all financial advisers with people that had annuity purchases in the pipeline following the announcement in March to make sure they reaffirmed the advice with the clients.

“However, I would ask Steve Webb, where do you draw the line?”

peter.walker@ft.com, ashley.wassall@ft.com