The Financial Services Consumer Panel, a consumer group, has just noticed something I think most of you might have known for some time: that the annuities market is “very dysfunctional”.
It provides the financially uninitiated with such “information overload” and jargon that they can’t cope with the idea of shopping around for the best deal. It indulges in “possible exploitative pricing”.
For those who do shop around, it runs the old financial services scam of putting something about as a free service and skimming off whopping great commissions behind the scenes. The result? “Excessive profits.” Nice.
All bad behaviour from the financial services industry is distressing. But the annuities scandal (I think it is a scandal) is more so than most. Why? Because in many cases choosing an annuity is the last big financial decision a person will make, and one that will, more than any other, shape their retirement. Once the papers are signed, there’s no going back.
So what makes this so hard? When you buy an annuity you are effectively swapping your lump sum (saved up over a working life) with an insurer for a regular stream of income. The size of that income depends on several things.
There’s your health – if the annuity sales person thinks you’ll die within five years, they’ll pay you more per year than if you look like you’ve got another 25 years in you.
Another factor is if you want your income to rise with inflation, or to be paid to a partner on your death. And interest rates matter.
If the firm expects to get a very low return on your money during your remaining life time, it’ll pay less than if it expects a high return: so the lower rates are, the lower annuities are.
It is complicated. But look at comparison tables and you’ll see there is one more thing to take into account – “exploitative pricing”.
Insurers know most people don’t understand annuities, and so won’t shop around. They price according to their perception of this ignorance. Take £100,000 to Standard Life, says The Sunday Times, and they’ll swap it for £5,230 a year. Take it to Legal & General and they’ll give you £6,156.
There are two things to take from this. The first is that you must not buy an annuity until you’ve compared prices relentlessly. This isn’t like a mortgage – you can’t refinance every two years.
The second is that it isn’t compulsory to buy one. It isn’t in the interests of sales staff to make it clear, but since 2011 it has been your right to keep your pension money invested as you see fit.
You can draw it down subject to an annual cap (currently £7,080 per £100,000 for a 65-year-old), leave what you don’t need untouched, and pass it to your own family (rather than the insurer) on your death. This sounds a better deal for the simple reason that it very often is.