Pension Freedoms: finding the missing pieces

While many over-55s with defined contribution pensions were celebrating their newfound pension freedoms, some who had already purchased an annuity were feeling disgruntled and left out.

So the idea of being able to assign future annuity instalments to a third-party investor in return for a lump sum or transfer into flexi-access drawdown was born. Initial excitement was quickly tempered with questions over how to make sure annuitants would get a fair deal, as well as many technical challenges.

The government itself admitted that for most, retaining a guaranteed income for life would be the right decision. To ensure all the pieces were in place, introduction was deferred for a year until April 2017.

After a consultation last summer and pre-Christmas Treasury feedback, more details recently emerged in the form of HMRC tax framework proposals and a Financial Conduct Authority (FCA) consultation on protecting consumers.

The regulator highlights the fact this market has more than its fair share of risks of consumer detriment, made worse by an increased proportion of elderly or vulnerable customers, and it has proposed a wide range of protections which will affect not just customers but all other parties.

The government estimates there are 6m individuals with an annuity who may be able to assign their future instalments to a third-party institution. Of those, they estimate 300,000 may actually do so.

Transferring instead into a flexi-access drawdown avoids any immediate tax charge, with income tax applied to the income only when taken

But the actual number will depend on many unknowns including consumer attitudes, perhaps coloured by media commentary, the willingness of annuity providers and trustees to allow assignment, how many buyers enter the market, the perceived value of the price they offer, and the willingness of advisers to get involved.

A vibrant market is not created by tax and regulation alone. And there are some missing measures which would make the market operate more effectively. Here we summarise the considerations of each party along with highlighting the missing pieces.

Existing annuitants

We all know that annuity income for a given pension sum has fallen dramatically over recent years. Life expectancy improvements coupled with quantitative easing and dramatic falls in long gilt yields mean the current cost of providing an income for life is far higher than, say, 10 years ago.

This has led to a general feeling among consumers that annuities do not represent value for money, although the FCA’s recent review did show that competitive annuity providers were offering fair value, highlighting the benefits of shopping around.