Defer now and pay later?
In uncertain economic conditions you may, instinctively, think it prudent to advise your clients to consider waiting before they buy an annuity. However, as a result of market volatility, their pension fund may have fallen in value over the past few months, so it's tempting to leave the fund invested and hope it will recover so that you can take advantage of a higher annuity at a later age to make up the income that has been foregone.
This page examines the effect of delaying the purchase of an annuity and how long it can take to make back the income that has been foregone through delaying a purchase decision.
To view the sales aid in PDF format, click here.
To find out more about annuity deferral, click on the links below
Deferring may be the right decision for your client – but you need to take a good hard look at the facts before taking this risk.
You should ask a few questions:-
- Can your client afford to forego this income?
- If they can continue to work or live off other assets, they may be able to live without their pension for some time
- But do they want to continue working?
- For how long can they afford to forego this income?
- How certain are they that their alternative source of income can continue as long as required?
- Are they at further risk of being forced to draw income at an even worse time?
- How certain are you that the markets will recover within this period?
- In December 1999, the FTSE100 peaked at 6930
- It has not reached this level since: the latest peak was at 6752 in June 2007 – more than 7 years later
- Other stockmarket indices followed a similar pattern
- How certain are you that annuity rates will improve within this period?
- Over the same period, from December 1999 to June 2007 annuity rates for single males declined by almost 20%
- Annuity rates can fall because of increasing life expectancy over the long term. In the last 3 decades, life expectancy for a male at age 65 has risen by 3 years per decade - equivalent to almost 8 hours every day.
- They can also fall because interest rates are falling
The example below shows the effect of deferring annuity purchase by 1 year, from age 65 to age 66. It assumes that the fund is £50,000 at age 65 and, if left invested, will grow by 7% per year before charges and that the individual buys a standard annuity.
|
|
Annuity purchase at age 65 |
Annuity purchase at age 66 |
|
| Age |
Annual income |
Total income received |
Annual income |
Total income received |
Difference in total income |
| 65 |
£3,683.04 |
£3,683.04 |
£0.00 |
£0.00 |
- £3,683.04 |
| 68 |
£3,683.04 |
£14,732.16 |
£3,981.48 |
£11,944.44 |
- £2,787.72 |
| 70 |
£3,683.04 |
£22,098.24 |
£3,981.48 |
£19,907.40 |
- £2,190.84 |
| 73 |
£3,683.04 |
£33,147.36 |
£3,981.48 |
£31,851.84 |
- £1,295.52 |
| 75 |
£3,683.04 |
£40,513.44 |
£3,981.48 |
£39,814.80 |
- £698.64 |
| 78 |
£3,683.04 |
£51,562.56 |
£3,981.48 |
£51,759.24 |
£196.68 |
| 80 |
£3,683.04 |
£58,928.64 |
£3,981.48 |
£59,722.20 |
£793.56 |
So if your client defers now, at age 65, for just one year, it could be 13 years before they get their money back. And that’s assuming the fund actually rises in the year it remains invested.
If interest rates were to fall by 1% over the period, the income from the annuity purchased at 66 could fall to £3,703. In this case your client would only get their money back if they lived 184 years after age 65.
|
|
Annuity purchase at age 65 |
Annuity purchase at age 66 |
|
| Age |
Annual income |
Total income received |
Annual income |
Total income received |
Difference in total income |
| 65 |
£3,683.04 |
£3,683.04 |
£0.00 |
£0.00 |
- £3,683.04 |
| 68 |
£3,683.04 |
£14,732.16 |
£3,720.24 |
£11,160.72 |
- £3,571.44 |
| 70 |
£3,683.04 |
£22,098.24 |
£3,720.24 |
£18,601.20 |
- £3,497.04 |
| 73 |
£3,683.04 |
£33,147.36 |
£3,720.24 |
£29,761.92 |
- £3,385.44 |
| 75 |
£3,683.04 |
£40,513.44 |
£3,720.24 |
£37,202.40 |
- £3,311.04 |
| 78 |
£3,683.04 |
£51,562.56 |
£3,720.24 |
£48,363.12 |
- £3,199.44 |
| 80 |
£3,683.04 |
£58,928.64 |
£3,720.24 |
£55,803.60 |
- £3,125.04 |
| 90 |
£3,683.04 |
£95,759.04 |
£3,720.24 |
£93,006.00 |
- £2,753.04 |
| 165 |
£3,683.04 |
£371,987.04 |
£3,720.24 |
£372,024.00 |
£36.96 |
In this case, your client would have to wait 100 years, until they were 165, to get their money back.
And this is just a one year period. If your client had to wait longer for their fund to recover (it may, for example, be more than 5 years) they would have foregone more than £18,000 in income. If the fund does not recover in this time, they could well never get their money back.
If interest rates were to fall by 1% over the period, the income from the annuity purchased at 66 could fall to £3,460. In this case your client would never get their money back.
If you’re in a With Profits fund, you should also remember it may be subject to a Market Value Adjustment (MVA) if benefits are not taken at the selected retirement age. Even if you switch to cash, sufficient growth may not be achieved to make up for the loss of income.
- Annuity rates could get better –
- - if interest rates, or bond yields, rise
- - if overall life expectancy decreases
- - if your health deteriorates and you qualify for an enhanced annuity
- Strong fund performance could improve the value of the fund, increasing the tax-free cash that can be taken and make more money available to buy an annuity (assuming rates have not deteriorated).
- If your client dies before taking benefits, the whole fund may be available as cash to their heirs Any guarantee period under an annuity would finish later as a result of later purchase
For further information on considering annuity deferral download our comprehensive 'Cost of Delay' guide. Or, for more details call us on 0845 302 2287 today or email ifasupport@justretirement.com.