Yet another bit of news about retirees getting insufficient income from their annuity and their State pension. Fine, getting the best annuity rate for your money helps, but…

Around one in five people who are within 10 years of retiring have not built up a nest egg for their later years, according to research by MGM Advantage, a mutual society that focuses on retirement services. The report, Retirement Nation: Britain’s hopes and dreams for retirement, surveyed 3,000 people. They were split into those who were already retired, people who were within 10 years of retirement and those who were more than 10 years from retirement.

Welsh people were least likely to have pension savings, while more than half of the people surveyed in Sheffield, Brighton, Cardiff and Plymouth had made no provisions for retirement.

Women were found to have made less provisions than their male counterparts, with one third of men saying that they started saving for retirement in their early 20s compared with just one in five women.

At the other end of the scale, 30% of people in Newcastle, 28% of Southampton respondents and 27% of those surveyed in Nottingham said that they were very prepared for their retirement.

But the most ‘financially savvy’ people were found in Liverpool, where 11% of those surveyed said they frequently visit IFAs compared with a national average of just 8%.

‘People are retiring on incomes that are lower than they should be and there’s an opportunity to put that right,’ said Chris Evans (pictured), chief executive of MGM Advantage, which is rolling out a suite of products in the retirement income space in the coming months.

He added: ‘We now know for certain that there’s a direct link between financial security in retirement and seeking financial advice, even if you don’t have a substantial nest egg.’

Organising your pension annuity at retirement may simply not be enough. Annuity income, combined with the State pension, is not providing sufficient income in retirement for many. So, what’s happening?

The answer: nearly a tenth of British adults are stepping in to help their parents fund retirement, as the cost of living increases alongside life expectancy. Inflation, demand for places at care homes and the growing elderly population mean that the costs of long-term care for the elderly are set to rise.

According to new research, people are also finding they need to step in financially to help their parents with day-to-day expenses or expensive care. Many people are also taking their parents into their homes to look after them, in order to avoid the expense of paying for care homes or part-time care.

The research from Engage, the mutual insurer, showed that a quarter of Britons with parents over the age of 65 are concerned about how the family will cover the costs of their parents’ retirement, or that their inheritance will be squandered to pay for their care.

A poll of financial advisers by Citywire recently showed that the cost to individuals of providing residential care is likely to be a whopping £30,000 to £40,000 a year. Meanwhile those who are cared for in their own homes face costs of between £20,000 and £40,000 a year depending on their individual needs.

Karl Elliott, a spokesperson for Engage, said: ‘With the size of Britain’s retired population growing, and costs of living increasing, it is important that people save little and often towards their retirement in order to reduce the pressure on themselves and their family to make ends meet in old age.’

Annuities offer the benefits people want from a retirement income: “simplicity”, “security”, “a
guaranteed income level” and “little or no risk”. Yet there remains some opposition to buying an annuity. People argue that annuities are poor value for money or inflexible; or that they should be able to pass on accumulated savings to heirs. 

A sizeable body of independent research – including the most comprehensive ever UK pricing
survey published in March 2006 – suggests annuities are priced fairly. Today’s annuity rates
need to be seen in the context of the low inflationary environment. People tend to
underestimate how long they will live, so a guaranteed income for life looks less attractive if
the purchaser believes it only needs to last for 15 years, say, whereas it actually needs to cover
19 years or more.

The nature of annuities is often misunderstood. An annuity is an insurance product that pools
risk between people. In the event of an annuitant’s early death, the unused part of their fund
helps to pay the pension of those who live longer than expected. It is not “pure profit” for the
provider.

The key challenge is to create flexibility within this market to enable individuals to purchase
products that meet their needs. Flexibility is increasing in the annuities market. Individuals can choose when to annuitise, subject to age limits of 50 and 75, and providers continue to be innovative. There is now an increasing range of annuities available, including those that facilitate a flexible retirement and allow an individual to make scheduled withdrawals over several years instead of converting the whole pension fund. Annuities can also be tailored to an individual’s health or lifestyle,
including dependents, and there are some that allow investment risk. Recent tax changes have
also allowed providers to expand the range of annuity options in the early stages of retirement,
including a value-protected annuity that allows some return of capital in the event of death
before 75.

More than half of an individual’s pension fund may consist of accumulated tax relief: the
fundamental reason for requiring annuitisation rather than allowing funds to be passed on to
heirs. There would be no rationale for the taxpayer to subsidise bequests through pensions tax
reliefs. If individuals wish to save to pass assets on after death there are a number of nonpension
savings and investment vehicles they can choose from.

These common issues that people have with annuities point to the need for better consumer
education, which the Government will take forward in its long-term strategy on financial
capability.

The Pensions Commission endorsed the principle of the Government’s policy on annuities.
They stated: “Since the whole objective of either compelling or encouraging people to save, and of providing tax relief as an incentive is to ensure people make adequate provision, it is reasonable to require that pensions savings is turned into regular pension income at some time.” 

Almost all individuals buy their annuity between the ages 60 and 69. This reflects current
retirement patterns, with around two-thirds buying their annuity when they retire. Few
people use the current flexibility provided by the 50–75 age limit. As people work longer, there
is likely to be some natural movement towards later annuitisation.

The Government agrees with the Pensions Commission that delaying annuitisation up to 75
could be beneficial for many. Evidence does suggest that the benefits of later annuitisation
are poorly understood. 

The age of earliest possible annuitisation will rise from 50 to 55 in 2010, in line with
Government policy to encourage greater participation in the labour market by older workers.
The upper age limit does not currently appear to be a constraint: just one in twenty annuitise
between ages 70 and 74.

The Government is committed to encouraging and supporting people to make
pension savings. Generous tax reliefs are given on pension contributions and investment returns. In exchange, pension savings must ultimately be used to provide a pension in retirement via the purchase of an annuity (or a scheme pension).

The Government believes that annuities meet consumers’ needs in retirement. The Government’s long term strategy on financial capability will, amongst other issues, look at ways to improve consumer’s knowledge of annuities and the various flexibilities available.

Overall, the annuities market in the UK has responded well to increasing demand,
tripling in size since 1991. The market has also introduced more variety of annuity products offering more flexibility and choice to individuals. The Government will continue to monitor annuities policy as the market develops and grows further and will address any barriers to efficiency as necessary to ensure the annuities market works effectively for consumers.

The Government did announce a review of the open market option whereby consumers can shop around to get the best annuity deal for their situation. Working with key stakeholders in and outside Government, the review will improve the open market option to ensure substantially more people take the opportunity to get the best deal for them in their retirement.

With the annuity market now growing year on year, and with pensions being more important than ever, the Financial Services Authority (FSA) is investigating the annuity market place and the insurance companies involved. Concerns are that insurers are not doing enough to point those with maturing pensions in the direction of the most appropriate annuity, by utilising the ‘open market option’ (the right you have to shop around for the best annuity rate).

A majority of people with maturing pensions should be encouraged by their pension provider into using the open market option (OMO)- simply, shopping around. However, too many consumers are persuaded to stay with their pension provider and end up with an inferior, often inappropriate, annuity.

Many companies claim extenuating circumstances as to why so few customers shop around. Most insurers will not accept small pensions to buy an annuity, thereby leaving savers with no choice.

Among the big insurers, use of the open market option is mixed. Last year the percentage of customers shopping around for an annuity was 33% at Norwich Union and Scottish Life, 35% at Prudential and 37% at Scottish Widows. These figures are all inflated by the inclusion of pension transfers.

Higher use of OMO occurs at Friends Provident (54%) and at Zurich (65%), though of the 17,300 Zurich customers who did not buy the company’s own annuity, 12,100 purchased one from Pru. This is because two years ago, Zurich entered into an arrangement with Pru whereby customers could obtain Pru’s market-leading annuities irrespective of their pension fund size.

More people should be shopping around for an annuity than ever before as insurers highlight the benefits of doing so. However, awareness of the open market option is not increasing. The FSA need to act quickly and decisively.