Pension freedom has accelerated the use of combinations of annuities and drawdown as part of a balanced solution and two companies, LV= and Retirement Advantage, provide packaged solutions.
Of course, there is nothing stopping advisers and their clients putting together their own combination of options under a Sipp umbrella. Numerous advisers were doing this well before pension freedoms.
Perhaps now is the time to take the discussion about combination solutions one step further and to consider what should go inside the combination solution. Before I do that, let us recap on where we are the moment.
We love jargon in pensions and the option for a combination of different retirement income options has had various different labels: hybrid plans, blended solutions, combination plans and cocktail solutions.
The term hybrid is used for a single policy that allows for a combination of annuities and drawdown from the same provider, whereas a blended solution refers to option under a Sipp wrapper.
✔ A combination of guaranteed income and drawdown options within one policy.
✔ The guaranteed income is for a lifetime annuity or a fixed term plan with a choice of terms and maturity options.
✔ The guaranteed income may be paid into a pension cash account, giving added flexibility as income is only paid out to the client when needed.
✔ This is a flexible pension account structure with numerous features to make it easy to hold a range of guaranteed income and drawdown options within a SIPP.
✔ This solution allows for annuities and investment funds to be purchased from other providers, making it truly flexible.
✔ An important feature of a blended solution is the range of tools and resources available to help advisers determine the best blend of options.
The case for combination solutions
I have set out the reasons a combination may result in better client outcomes. One reason that often gets over looked is that now clients with funds of less than £100,000 are investing in drawdown, the annuity part of the combination reduces the overall risk.
There are several ways of justifying the case for a blended solution, but the strongest cases can be made on the following basis:
It reduces or diversifies risk in retirement
It enables clients to meet more than one retirement objective
It produces better client outcomes
It is useful for reducing or diversifying risk in retirement
A good case for blending can be made by looking at the risks people face at retirement and ways to reduce these risks. Generally speaking, people are not faced with binary risks, for example, income or capital risks, but a multitude of risks including:
Risk that inflation will reduce spending power
Risk of living longer than expected and running out of income in the future
Risk that circumstances such as health or income requirements may change in the future
Risk that equity prices and or interest rates could rise or fall
There is no single policy that effectively manages all of these risks. For instance, a guaranteed annuity is the only way to protect against the risk of a client outliving their pensions, but they do not provide flexibility if circumstances change.
Drawdown is the most flexible option, but there is a risk that fund values could fall if future investment returns are less than expected and a risk that income could eventually run out.
Annuities rates fell to record low levels immediately after the Brexit vote. The 15-year gilt yield, which I use to benchmark annuity pricing, fell from just below 2 per cent before the EU referendum to as low as 1 per cent in the summer.
Annuities have fallen by about 17 per cent over the past year. The benchmark annuity (age 65 and 60, £100,000 joint live 2/3rds with level payments) was £4,818 in September 2015, but is about £4,000 now.