Anyone who has bought an annuity since the age of super-low interest rates began has spent the last few months feeling extremely hard done by. That’s because an annuity is an irreversible contract: once you’ve swapped all the cash in your pension pot for a guaranteed income for the rest of your life, there is no going back.
And that means that anyone with an annuity (five million people at the moment) has had no hope of benefiting from the pension freedoms introduced by George Osborne over the last year. They can’t manage their money as they like; draw lump sums down at will; or, crucially, leave what is left of their pot to their heirs free of inheritance tax.
But that’s just changed. Last week, Osborne announced that he is working on extending pensions freedom to annuity holders by allowing them to sell their annuities for cash via some kind of secondary market. The proceeds would be held inside a pension, just as if they had never bought the annuity in the first place, or taken as cash with income tax paid at their marginal rate.
This sounds great – after all, why shouldn’t we all be free? But any annuity holders heading for the Saga website to book a cruise might want to pause for a minute.
Valuing annuities is tricky at the best of times – more akin to astrophysics than the kind of maths most of us understand. So most people will have no idea whether the price their insurer or someone in the secondary market might offer them represents good value.
It also isn’t clear that many firms will want to enter the market. Think of the administration: how would a company keep track of the lives and deaths of those who once held the annuities it now owns?
None of this is to say that it can’t work – just that it leaves the market wide open to fraudsters and to companies happy to make high margins on deals done with pensioners. The likely result? As Tom Selby puts it in Money Marketing, it could well “leave savers who may have already been fleeced once open to being ripped off a second time on the same pot of money”.
This isn’t the only risk. What if after this double fleecing former annuity holders find that their money slips through their hands faster than they might have expected? In that case, they may end up in poverty later in their retirement. That prospect, like much of the rest of the pension reform, risks breaking the “generational agreement between taxpayers and pensioners”, says Neil Lovatt of Scottish Friendly.
Tax relief on pensions is paid with the specific aim of preventing people being a burden on the state in their old age. If they still end up dependent on the state, the taxpayer might well have cause to feel rather ripped off.