Personal PensionMay 18 2016

Beyond the single product solution

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The next step is to determine whether it is better to arrange this combination through a packaged solution or a DIY solution.

At present there are two hybrid solutions that package annuities and drawdown into one single plan and these are provided by Partnership’s Enhanced Retirement Account and Retirement Advantage’s Retirement Account.

It could be argued that unit-linked guarantees (guaranteed drawdown) are a type of combination plan because they offer guaranteed income for life and drawdown within one plan but they are not included in this discussion.

The DIY option can be arranged by purchasing a stand-alone annuity policy and investing in a separate drawdown plan. This is sometimes called a blended solution. Some companies such as LV= make it easy to arrange a DIY cocktail by having a flexible Sipp plan as well as providing planning tools.

Blended solutions and combination plans

A hybrid or combination plan is a single product package which provides both annuity and drawdown income.

The term blended solutions is used to refer a solution where more than one retirement income product; for example annuity, fixed term income plan or drawdown is used to provide a bespoke or tailored solution. These different products may be arranged as part of a single pension wrapper such as a Sipp or arranged as completely separate plans.

Combination plansBlended solutions
OverviewA single plan that provides a combination of annuity and income drawdown. Income is paid from the Sipp cash account and client receives one single income payment net of taxA solution that comprises of separate annuity and drawdown plans. This may be under one wrapper, for example, Sipp or the plans can be from different providers
Advantages

Enhanced annuity offered

Low cost drawdown funds

One monthly payment

Simple and cost efficient

Not tied to one provider

Wide range of options

Maximum flexibility

Benefits can be phased

DisadvantagesAnnuity purchased with plan provider. Limited range of investments Can be complex and expensive to set and up and administer

The strongest case for arranging a combination of annuity and drawdown options is that it should produce better client outcomes. But how do we know if a better outcome has been achieved? In most cases a superior outcome is obtained when the chosen solution satisfies the following criteria:

It meets current and longer term income requirements

Income is sustainable (after allowing for inflation) over the longer term

Ensures undue risk is not being taken

Provides sufficient flexibility to respond to changing or unexpected circumstances

Produces the appropriate death benefits

Is tax efficient

The hybrid or blended solutions help meet the above criteria in a way that single product solutions cannot by diversifying risk and providing ways of balancing the need for a level of guaranteed income with the need for flexibility.

So what is better: the packaged solution or DIY option?

Good retirement planning separates the strategy from the tactics. By this I mean retirement planning is more of a strategic decision which looks at identifying a client’s longer term retirement objectives as well as establishing the appropriate amount of risk that can be taken. The tactical part is deciding what particular products or options can best achieve the strategic objectives.

It is at the tactical level that the real difference between the packaged and DIY approaches become important and the following things should be compared:

Annuity purchase options

Tax efficiency

Investment strategy

Death benefits

Overall costs

The table bellow compares these options:

Hybrid productsDIY
Annuity purchase optionsIn-house annuity rates are used which may not be the best in the marketThe annuity is purchased on the open market
Tax efficiencyHybrid plans have an advantage because the annuity income is paid into the Sipp bank account. This means that any unwanted annuity income can be retained within the SippThe DIY option can be set up on a phased retirement basis and depending on the options this could be even more tax efficient that hybrid
Death benefitsAs the annuity is purchased as an asset of the Sipp there may be an advantage in dealing with annuity death benefitsThe normal rules for death benefits apply.
Investment strategyThe hybrid plans favour passive funds and have a limited range of fundsThis is where the DIY may have the edge because there are few if any restrictions on the range of investments.
Overall costsFor smaller pension pots the cost are probably less than for DIY The costs will reflect the complexity of advice and additional administration

Generally speaking, the decision where to go for a hybrid or DIY solution will be influenced by size of fund, investment strategy and complexity of advice.

Hybrid plans are better suited to smaller funds because of the continuance of having both annuity and drawdown options available within a single plan. I understand that there are some relative large funds going into hybrids so they clearly are suitable for larger funds. The DIY approach will normally be more expensive not least because of the additional administration of arranging more than one plan.

Perhaps the biggest differentiator is the investment choice. There is a strong case for passive investments and managed portfolios but advisers and their clients who want a different investment strategy will be attracted to the greater range of investments available through other Sipps.

Finally, the complexity and sophistication of advice will be a factor. Possibly an even better solution can be obtained through the use of phased retirement where tax-free cash is taken in stages and used to supplement the income from annuities or drawdown. With the hybrid schemes it is necessary to take all the tax-free cash at the outset so true phased retirement is not an option.

The case for blended solutions has never been stronger and the new pension rules combined with more flexible products have removed many of the barriers that may have prevented advisers from fully adopting these solutions in the past.

The choice between hybrid plans and DIY solutions clearly depends on more than fund size and advisers will clearly need to weigh up all the factors.

Billy Burrows is director of Retirement Intelligence

Key points

Advisers and their clients have realised that a combination of annuities and drawdown options may produce better outcomes than a single product solution.

The strongest case for arranging a combination of annuity and drawdown options is that it should produce better client outcomes.

The biggest differentiator between blended and DIY is the investment choice