The pensions minister’s proposal to allow retirees to cash in annuities could suit defined benefit schemes eager to access the resultant long-term cash flows, but pricing “secondhand” annuities could be a sticking point.
From April, savers will be able to take their pension pots as cash or through drawdown, effectively removing the need to annuitise. Steve Webb told The Telegraph on Saturday that he wanted to extend the new pension freedoms to those who have already annuitised, giving them the option of cashing it in for a lump sum.
The buyer – a pension fund or other insurer, for example – would then continue to receive the annuity payments until the contract ended, as part of a secondhand market where such contracts could be bundled together for sale.
Webb told the newspaper: “No one would be obliged to do so, but for those who would prefer up-front capital to regular income, I can see no reason why this should not be an option.” Some commentators have raised concern that in doing so savers would get a poor deal.
Adrian Boulding, pensions strategy director at pension provider Legal & General, said larger DB funds would be attracted to buying these secondhand bundled annuities, as it would give them exposure to the illiquid debt investments backing insurers’ annuity books but “without any of the downside risk”.
“There are pension trustees out there that would kill for that,” he said. “This is what makes Steve’s proposal so good – there’s something attractive in the deal for both buyer and seller.”
Boulding added the move could help increase overall sales of annuities as people will no longer view them as irreversible or inflexible.
What price freedom?
However, Mark Wood, chief executive officer at consultancy JLT Benefit Solutions and former CEO at insurers Prudential and Paternoster, said the big question would be working out the 'surrender value' of the annuity in what would effectively be a “breach of contract”.
Wood also said that current financial markets offer an extremely low discount rate that would make the proposal unattractive for insurers. “The amount of capital that is going to come back to an individual is going to be extremely difficult to calculate,” he said.
"On one basis, you look at the income you’re generating on an annuity that was taken out a decade ago, and the amount of capital would be greater today than the capital that you needed to buy that annuity 10 years ago. So that’s clearly not going to be something that insurance companies are going to be able to sustain.”
A high-inflation scenario could also mean an annuitant would get a better deal than the insurance company, Wood said, and the penalty the insurer would have to impose for that would then “neutralise” the appeal to individuals of cashing out.
Webb has said he hopes to have put the proposal out to public consultation and secured cross-party support in order that the reform can be implemented early in the next parliament.
