The recent U-turn on the secondary annuities market cost the retirement industry, says Marilyn Cole – but not nearly as much, potentially, as the fact many holders simply do not understand what an annuity is.
The government’s decision to abandon plans to allow second-hand annuity sales has been welcomed by what would appear to be an overwhelming majority of financial advisers.
One of our adviser contacts had told us there might be a few complicated tax planning situations where it made sense to cash in after next April and yet most financial advisers and planners had intended to have very little to do with the reforms at all.
At the same time, it seems fair for the broader financial services industry to ask why such a reform was not suggested in a Green Paper or put out to consultation before plans were firmed up and a date – albeit a delayed date – announced. It would be equally fair to point out that hasty policy can lead to precisely this sort of hasty U-turn.
Of course, politically we have had a change of regime, if not of political party. The political tactician George Osborne has been replaced as Chancellor by the more measured Philip Hammond.
Avoiding the risk of consumer detriment when there is so much else on the new Chancellor’s plate may well have been deemed worth the price of some difficult tabloid front pages – the starkest example telling five million people they were still trapped in “rip off” annuities.
Meanwhile the investment from many firms must run to the many millions of pounds. We know that several mid-sized entrepreneurial businesses had staked a lot of cash on adapting their models for this new market.
We also know that established pension providers with annuities in payment had begun preparatory work for the reforms. Many providers were vilified for not being able to facilitate the pension freedoms at the drop of a hat regardless of the details of the cases involved and it was something they wanted to avoid this time.
We have helped both pension providers and firms with plans to facilitate the market in other ways in the past 18 months. All were very keen to make sure the consumer was as safeguarded and as well informed as possible before considering cashing in.
Yet we found one very significant issue to worry about. This was the fact that the vast majority of the 60 to 75 year olds – out of the 40 we spoke to at length – simply did not understand what an annuity was. This was despite most of the people we spoke to owning these contracts and receiving regular payments from them.
Their view was that they had received a certain amount in payment and that subtracting that amount paid from the pot they had saved would equate to what they had left. You might even argue that these customers already thought they had something that operated as a pension bank account.
There was little or no concept of the insurance element of the contract as something that would give financial protection against the risk of living a long or very long time.
One silver lining was that the research did show much greater understanding where an open market enhanced option had been selected. This group may also have had less reason to want to trade in the contract too – though of course now we will never know how this would have panned out in practice.
Advisers and providers may believe this is no longer of immediate concern as these five million-odd annuity contracts are set to remain in force for the foreseeable future. Yet it is worrying that the mass of older financial services consumers believe they remain in some sort of cash fund with their name on it and which they can draw down from.
Perception and reality
There is money for these customers in the reserves of the UK insurance sector of course and individually they have an annuity contract – but it still isn’t what they think they have. As we noted earlier, they have now been told they can’t do something to reverse the fact they have been ‘ripped off’. In our view, this isn’t good news for anyone.
Increasingly older people are phasing retirement. Some will want to access equity release and others will be concerned about long-term care. The financial environment could also prove more than a little hostile with ultra low savings rates and rising inflation to name two likely short-term challenges.
These annuitants also have families to whom they may relate their poor treatment at the hands of the pension industry – whether that is a fair assessment or not. It certainly won’t help that a few pension firms may face enforcement action over their failure to properly discuss the enhanced option. The headlines will again be poor even though the FCA has said the problem is not systemic.
While we know that advised clients are in better shape and their knowledge levels much higher, this general misunderstanding cannot be good for the industry nor its customers and clients.
Perhaps in the paternalistic world of two decade ago – where annuities were the default choice and provided better value – it may have seemed sufficient to allow people to reach retirement with a pension in payment but limited understanding.
For the pension freedom generation, however – and for that matter the auto-enrolment generation – it is really important we increase people’s knowledge. Yet it is surely also a grave concern that up to five million older people are not sure what private pensions they have and why.
Apart from anything else, it may allow the government to come up with badly thought out policies that it then has to ditch at the last minute, and that really doesn’t help anyone.
Marilyn Cole is managing partner at Space 01
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