The great annuity scandal
- Steve Hunt is Managing Director of independent annuities broker Rockingham Retirement. The opinions expressed are his own. -
The concept of an annuity has not changed in hundreds of years. In fact the first annuities sold were probably during Roman times where â€˜annuaâ€™ were sold for a fixed period or for life; but todayâ€™s mortality is unprecedented in history. An annuity was never designed to be paid over 30 years, or even 20 years for that matter.
What concerns me a great deal is the number of people who are going to be living in poverty in 10 yearsâ€™ time because they have bought an annuity. Or the number of widows forced into poverty because their husband had bought a single life annuity.
Let me explain why. Inflation may not be a problem now, and who knows when it will return, but return it will – that is a given. The vast majority of annuity sales are level (and a great many single life). At just 3% inflation an annuity paying Â£500 a month in 10 years will reduce to Â£370 a month and at 5% inflation to just over Â£300 a month. And God forbid we get back to good old 1975 when it hit 24%. Mind you, 24% inflation would significantly help the governmentâ€™s debt problem! Now thereâ€™s a thought.
With so many final salary schemes now closing, the de-accumulation risk of retirement is also being passed to the members themselves who are ill equipped to make the right or indeed informed decisions; in fact, I am not sure many Trustees themselves are.
Decisions made on de-accumulation may be the most important decisions in someoneâ€™s entire life and once made are usually totally irrevocable if a whole of life annuity is purchased. Itâ€™s like taking out a 30 year mortgage which can not be changed in any way for the entire 30 year term!
The current retirement income process is scandalous and needs to be changed – and quickly; what is currently allowed to happen really beggars belief.
Imagine a high street bank, letâ€™s say Barclays, has a customer, Mr Harris, who has had a savings account with them for 30 years. Now Mr Harris has just had his 65th Birthday and Barclays told Mr Harris that he needs to take his money out and buy an income but Mr Harris does not reply to Barclays for one reason or another so Barclays buys one of their own products, which they know is poor value, and whatâ€™s more Mr Harris is stuck with for the rest of his life. Oh and Barclays pay themselves a commission as well for selling themselves the business.
Believe it or not this is currently happening in the Life Insurance industry. Someone can save their entire working life with an insurance company and when they retire, if they do not shop around their company will buy one of their own products for them; one which may be totally unsuitable – and then pay themselves a commission!
This should not be allowed to happen and because it does, millions of people are going to be worse off in retirement. Fact.
The alternative is something called an Open Market Option or OMO. The OMO should be compulsory. An insurance company should NOT be allowed to sell someone their own inferior product. The OMO should become the default option, period.
This is a disaster waiting to happen. It is only a matter of time before someone stands up and says â€˜I have been mis-sold this productâ€™. Insurance providers do not believe they have been mis-selling annuities; but then they did not think they mis-sold personal pensions in the 1990â€™s either.
Letâ€™s consider a hypothetical Mr Smith who worked all his life as a factory worker; who made sacrifices and enforced sacrifices on his wife and family to save for his pension with Winstones Life Insurance Company. He is sent his options at age 65 and, not really knowing what to do, defaults into their standard level single life annuity.
Mr Smith is not in good health – he smoked all his life and had a good social life at the club and had high blood pressure and mild diabetes.
Seven years after Mr Smith retired he unfortunately died aged 72. His pension fund when he retired was Â£50,000.00. He received back Â£28,000 in annuity payments. Did the remaining Â£22,000 go to his 65 year old widow? No, Winstones Life Insurance Company keeps it.
The worse thing is that Winstones Life knew he would be much better off financially if he shopped around and exercised his OMO; not only did they do nothing about it, they sold Mr Smith one of their own plans as well, knowing it was an inferior policy!
Remembering insurance law is governed by the maxim Uberrima Fides, of the Utmost Good Faith and NOT Caveat emptor.