Lifetime annuities offer fair value for money, a new report by The Open University Business School has claimed, although it admits that consumer detirement does occur when male annuity purchasers end up on the worst rates.
Protection against longevity risk may be poorly understood by consumers, according to a report published today (25 July) by the International Longevity Centre UK.
Falls in annuity rates over the past 25 years mean that an individual who wanted to start retirement with a nominal income of £10,000 would have needed a pension pot of £65,000 in 1990 - but over £175,000 by 2013.
This has led to a view by some that annuities are a bad investment. However, some believe this overlooks the insurance value of annuities, particularly in the face of increasing longevity.
Major determinants of annuity rates are life expectancy and long-term interest rates, the report said.
A linear regression of UK level annuity rates for a 65-year-old man against a benchmark 15-year gilt rate and cohort life expectancy using monthly data over the period 1991 to 2013 explains 97 per cent of the variation in the annuity rate, ILC-UK said.
Jonquil Lowe, author of the report and lecturer in personal finance at The Open University, used a ‘money worth ratio’ to determine where some annuity customers were getting more than value for money.
For most of the people buying the best value annuities - an average of top three rates - the MWR at all ages for women and at ages 55 to 70 for men was greater than 0.85.
Due to the fact this figure is in the normal range, the MWR does not suggest an “excessive mark up by providers”.
For women, the worst annuity rates still deliver value for money, with the exception of those with standard life expectancy aged 75.
For men, the worst annuity rates offer poor value for money, with the exception being men with higher-than-average life expectancy aged 55 or 60.
The results suggested there is consumer detriment to those male annuity purchasers who end up on the worst rates, but otherwise annuities are a product that generally delivers value for money, ILC-UK said.
Ms Lowe commented: “This much maligned financial product should ideally still play a key role in most people’s retirement planning and in the free, impartial guidance for every retiree promised as part of the government’s pension liberalisation package.
“A fall in annuity rates associated with increasing life expectancy does not equate to a fall in value for money; rather it represents a spreading of value over a longer period.”
David Sinclair, director at the ILC-UK, added: “The research dispels the argument that consumers should automatically shun annuities on the basis of value for money. But given the gap between the best and worst annuities in terms of value for money, it is vital that we continue to encourage and support retirees to shop around in order to get the best value annuities.”
Andrew Tully, pensions technical director at MGM Advantage, claimed the research shows people who have shopped around in the open market and have then gone on to purchase an annuity, especially where health and lifestyle is taken into account, are receiving good value.
He said: “Unfortunately we have witnessed far too many people staying with the company they saved with and this is where the bulk of the problems arise. If this behaviour continues in the new world then all the additional flexibility being introduced will have failed to deliver better customer outcomes.
“The recent changes announced in the Budget have created uncertainty in the market. Many people are still looking for a high level of guaranteed sustainable income in retirement, and good value annuities will continue to play a key role in delivering good customer outcomes.
“But there is also an opportunity for providers to develop new solutions that people will want to buy.”
Billy Burrows, associate director at Key Retirement Solutions, emphasised that the choice for all at retirement will be ‘do I want to carry the longevity risk myself, or do I want to share or even eradicate the risk with an insurer?’
He said: “The paper rightly points out that annuities provide a valuable insurance that consumers will not live too long and outlive their pension savings and that there is no other financial product that provides a guaranteed lifetime income.
“The grass may look greener with the new freedom but a lack of focus on life expectancy and living too long means that there is a real risk that many may run out of money in the future.”
