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The secondary annuity market brings “significant risk of poor outcomes for consumers”, the Financial Conduct Authority (FCA) has warned as it releases its rules on advice and guidance.
The regulator today published a consultation on its proposed rules and guidance for the second-hand annuity market.
It said the rules are designed to help “provide appropriate consumer protection while promoting effective competition in the interests of the consumer”.
There will be an advice requirement check to be carried out by providers and upfront charging requirements, the consultation paper said.
It added annuities are inherently difficult for consumers to value, and consumers who will be able to participate in this market will include a higher proportion of older, more vulnerable consumers.
The second-hand annuity market is due to come into operation in April next year and is an extension of pension freedom to people who have already secured a guaranteed income for life through an annuity.
People will be able to sell their contracts for a lump sum payment.
HM Revenue & Customs outlined its position on taxation yesterday. It predicts about 300,000 people will sell their regular retirement incomes.
Although technically possible to sell an annuity already it comes with harsh tax consequences. The government has confirmed it will change the tax position on annuity sales so they are no longer an unauthorised payment.
The FCA said its rules and guidance aim to balance the need to support this new market with protecting consumers.
Director of strategy and competition Christopher Woolard said: “Opening up this market extends the government’s pensions reforms to those who have already bought annuities, however, there are potential risks involved for consumers and we recognise that some consumers may be particularly vulnerable.
“We have set out proposed rules and guidance today that will help ensure that consumers have an appropriate degree of protection should they decide to sell their annuity income.”
Advice
The FCA said providers must recommend that the seller takes advice, if not already taken, even if taking advice is not required by legislation.
It also highlighted the use of guidance. The paper said: “The government is legislating to extend access to Pension Wise to those considering the sale of their annuity incomes and to contingent beneficiaries.
“We propose to require firms contacted for the first time by a seller to recommend that the seller seeks guidance. The FCA will consult on the standards for extending Pensions Wise later in 2016.”
There will also be an advice requirement check to be carried out by providers, the consultation paper said.
“The government is legislating to require sellers to take ‘appropriate advice’ where the value of their annuity income is above a certain threshold, and to place a duty on the FCA to make rules determining which firms should check that this has been done prior to sale.
“We propose that in most cases annuity providers will carry out this check.
“The government will set the compulsory advice threshold, and the definition of ‘appropriate advice’, in secondary legislation.
“We propose to require that firms contacted for the first time by a seller must inform the seller about the existence of the compulsory advice requirement.”
Brokers
The government has confirmed that buyers and brokers will need to be authorised by the FCA.
The FCA said it had proposed that brokers must set out their charges up front and agree them with the consumer selling their annuity, rather than being paid by commission from firms acting as buyers.
It said: “In order to help consumers judge the value of their annuity income, the FCA has proposed that buyers and brokers making an offer for a seller’s annuity income will be required to present their offer alongside the ‘replacement cost’ of the annuity income if it were to be bought new on the open market.
“Under the FCA’s proposed rules firms will be required, at the earliest opportunity, to give those considering the sale of their annuity specific risk warnings and to recommend that they seek regulated financial advice or guidance from Pension Wise.
“Firms will also be required to recommend that sellers shop around.”
The FCA also proposed that annuity providers will only be able to recover reasonable costs when charging to facilitate annuity income sale and that the sale of the annuity will fall within the scope of both the Financial Ombudsman Service and the Financial Services Compensation Scheme.
It also reminded firms of their existing responsibilities to treat appropriately those consumers who may not have full mental capacity.
Risk assessment
The FCA said while it recognised that the government wanted to deliver greater flexibility “we believe consumers selling their annuity income could be exposed to significant risks”.
The regulator explained that over the course of 2015/2016, it had undertaken assessments of the risks to good consumer outcomes in the secondary annuity market.
The FCA said it had identified the following risks for sellers in the secondary annuity market:
• Longevity risk – a consumer selling an annuity income is giving up some or all of their income and insurance against longevity risk, depending on the other income (including other annuities) they have. They may, therefore, face an increased risk of running out of money in retirement
• Value for money – some consumers may struggle to value their annuity incomes in respect of the benefits being forgone. Consumers will need to be helped in making an informed choice about whether to sell and at what price
• Consumer inertia – if consumers do not shop around they may not find the best price for their annuity income
• Vulnerability – there is a higher incidence of reduced mental capacity among potential annuity income sellers. Individuals who have debts may come under pressure to sell their annuity income in order to pay off those debts, although this may not be in their best interests. Sellers who are, or may become, reliant on means- tested benefits may also be vulnerable
• Potential conflicts of interest – conflicts of interest exist that have the potential to cause detriment to sellers, for example, in respect of relationships between brokers and buyers
• Potential risk of investment scams and fraud – the FCA has a key role in seeking to reduce investment scams and fraud, this includes monies released from pensions and obtained via annuity income sale on the secondary annuity market
• Market depth – it is impossible to know in advance how many buyers will seek to participate in the secondary annuity market. If insufficient buyers participate, this may reduce the price offered to consumers for their annuity income
The FCA consultation is open until 17 June.
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