Each month, we ask our industry to answer one big question!
Nick Bladen is head of pensions & bonds marketing at Skandia
Without doubt, income drawdown will continue to increase in popularity as many clients no longer perceive annuities as a good deal.
My view is that clients have a strong appetite to retain direct control over their investment strategy. Income drawdown products offer clients the ability to access a pension lump sum and provide the option to take nil income, a feature simply not available from annuity products.
Last year Skandia carried out a survey of 1,000 consumers which highlighted a dramatic drop in the number of people who found the requirement to buy an annuity with their pension fund acceptable - from 57% in 2001 to 30%. Clients are seeking more flexibility when it comes to retirement, and drawdown can offer the options they seek.
This doesn't mean that annuities will disappear. It is all about client choice, suitability and meeting the client's needs and annuities may continue to be an appropriate choice for specific clients.
Peter Carter is head of product marketing at Met Life UK
Drawdown has increased in popularity but conventional annuities still dominate the market. It is clear that annuities are not about to wither and die any time soon.
It is also clear that both annuities and drawdown work for many clients while also having drawbacks which make them less suitable for other clients. It should not be a case of choosing one or the other. Advisers should be selecting from a range of solutions.
A combination of increasing longevity, the switch from defined benefit pension schemes to defined contribution schemes, long-term economic factors such as inflation and short-term economic factors such as the ongoing credit crunch and stock market volatility are changing the retirement income landscape.
There is a clear gap in the market for other solutions such as variable annuity products offering guarantees. Many clients need the flexibility of being able to stay invested in equities and other assets while also being able to lock-in gains.
The debate had to choose between drawdown and annuities. In the real world IFAs have a much wider range of choices and that is exactly how it should be.
Ray Chinn is head of pensions at LV=
It is interesting that before the debate the outlook for annuities was much gloomier than at the end, with the initial 'vote' indicating that 53% agreed that drawdown would replace annuities compared with only 20% retaining this view. This reflects the fact that while drawdown would appear to offer more in terms of flexibility, investment control and death benefit provision, there is no getting away from the fact that for many annuities make perfect sense. At the risk of 'pigeon-holing' annuities, those with smaller funds are likely to find annuities more attractive as are those who are particularly risk averse. On a more positive note, the wider choice of annuity variants will also drive demand. To quote an article from last month's Retirement Planner - there's definitely 'life in the old dog yet' when it comes to annuities and there will be for some time to come.
Andrew Gadd is head of research at The Lighthouse Group
Generally speaking, for drawdown to work efficiently the fund needs to be bigger and the client also needs to have other, non-pension income producing assets to fall back as a hedge against investment volatility in the market. Last year there was about £3bn invested into around 33,000 new drawdown arrangements at an average of around £92,000 per contract according to the ABI. The average annuity purchase price was around £25,000 through about 430,000 contracts and over £11bn invested, and the typical annuitant was likely to have little other non-pension assets available to supplement their retirement income. Ergo, it's unlikely that drawdown will replace annuities in the foreseeable future if at all.
Bernard Footitt is technical manager (pensions) at Canada Life
I do not think it will be a case of drawdown replacing annuities all together but rather drawdown being used in combination with annuities for certain clients and as an alternative to annuities for other clients depending on individual circumstances and attitude to risk.
We are all aware that the question of how to take pension benefits is one of the most important financial decisions an individual will have to make in their lifetime. In terms of alternatives at one end of the scale we currently have the dependable secure income for life that comes with a conventional annuity while at the other end is the much more flexible but riskier income drawdown. In addition we have also recently seen various "third way" products launched that fall somewhere in between conventional annuities and drawdown and of course there are various types of annuities that can be purchased.
The job of a good IFA is to set out the advantages and disadvantages of the various options available and then to recommend an appropriate course of action. In some cases this may be to go down the traditional annuity route and for others the drawdown route but for many it may be a combination of the two. It is important to remember that it is not always a case of one or the other.
John Gleadall is senior technical manager at Legal & General
Unless there is a sudden and miraculous transformation in the financial capabilities of the population at large then the answer has to be "No". Sufficient comprehension of the mathematical and investment principles required is limited to people who have spent years in the industry and to advisers employed by those lucky enough to afford them.
The Department for Work and Pensions has already declared that the most suitable decumulation route for members of Personal Accounts will be an annuity - so that's 8-10 million people already dealt with. Annuities will also remain the most sensible route for people with small to medium pots of pension money.
What is needed is greater understanding, both in some quarters of the financial press and among the pension holding public, of the good value offered by pensions annuities especially in the light of increasing lifespans.
So to my mind, annuities will remain the option for the majority with drawdown as the province of the growing numerically and risk/reward skilled minority. The advent of variable annuity type products may well increase the pace of change.
Aston Goodey is head of business development - retirement income at Prudential
Annuities will continue to have a central role in any holistic retirement income plan as they are the most effective and efficient way of maximising lifetime income. It is not a question of 'if' but a question of 'when' pensioners should fully annuitise.
There's an acceptance that delaying annuitisation can have benefits, and income drawdown provides the means of realising those benefits, such as keeping the pension fund invested for growth, as well as keeping it within the estate for inheritance purposes. The longer a pensioner waits to annuitise, the better the rate they receive and the more likely they are to qualify for enhanced terms.
However, what income drawdown does not do is provide essential longevity insurance - what if they live for a very long time? There is a point at which it makes much more sense for a customer to lock into an annuity where there is no investment risk, and they are guaranteed an income for the rest of their life. The effect of mortality drag becomes significant as a client moves into their 70s which for most will make it prohibitive for them to remain in drawdown. In my view, there is a long way to go before income drawdown will replace annuities.
Steve Latto is pensions development manager at Alliance Trust
Like many investment decisions, the choice between an annuity or drawdown is ultimately a decision based around risk and reward.
For many individuals who have smaller pension funds and who are looking for a simple and relatively risk free solution, an annuity will be the automatic choice. Demand for annuities is likely to continue to grow as:
- the amount of pension savings within defined contribution schemes increases,
- the estimated additional eight million individuals saving through Personal Accounts approach their retirement.
Drawdown will remain popular with those with bigger pension funds who want to manage their own investments. With there no longer being a requirement to take an income from the fund prior to age 75, an individual can access a lump sum without "disturbing" their pension. The more attractive death benefit options before age 75 also makes drawdown attractive.
With further innovation in both the annuity and drawdown markets that will bring these two options much closer together, advisers should not view them as mutually exclusive choices.
David Marlow is director at Alexander Forbes Annuity Bureau
Income drawdown is only suitable for a small minority of people for the following reasons:
- The pension fund remains invested and if it is invested in relatively safe areas such as cash and fixed interest securities then it is likely that a lower lifetime income will be generated than is available from an annuity.
- Investments in assets that might provide the extra returns needed to match an annuity involve investment risk. Investments especially equity investments can go down as well as up therefore the future level of income is uncertain.
- Annuity levels might seem historically low at a particular time; however the annuity purchase could easily end up being postponed to a period of even lower annuity rates. There have been substantial reductions in annuity rates since 1990.
- A pension fund of at least £100,000.00 is generally required after any tax free cash is taken to ensure that the charges do not impact too heavily on the fund's investment performance.
Therefore, I do not think that income drawdown will completely replace annuities. I do however anticipate growth in variable annuities as these are designed to combine the flexibility of income drawdown along with some of the guarantees associated with a traditional annuity.
John Moret is director of sales and marketing at Suffolk Life
This is hardly a new issue. Income drawdown has been around since 1995 and was introduced after the Treasury banned two "flexible" annuities on the grounds that they did not exhibit all the attributes that they expected to see in an annuity. The overwhelming criticism of this ban from the industry led to a rethink and a new drawdown regime being introduced. This has been gradually refined and is now used more and more. However it never has been and never will be suitable for all - especially those with smaller funds.
Drawdown remains a valuable tool for those able to defer annuity purchase - and increasingly is being used as part of a phased approach which may also accommodate use of the new look variable annuities. This is an emerging area which looks set for growth over the coming years as more products emerge. An even bigger boost will be provided when the current age limit for annuity purchase is increased from 75. This is inevitable both as a result of demographic changes and also because a change in government would almost certainly lead to a change in the current rules.
Mike Morrison is pension strategy manager at Winterthur
I am not sure that drawdown will replace annuities but it will continue to be a growing part of the retirement planning market. Drawdown offers flexibility of investment and the chance to continue investing. Annuities offer certainty and an insurance against longevity. For many people, an annuity will be the right option but for clients with larger funds there is likely to be more choice as annuity purchase can be deferred or put off altogether.
In many cases a combination of drawdown and annuity purchase could well be the optimum solution - the so-called third way drawdown products - as both satisfy different needs. Further innovation in both these markets will be welcomed, offering even greater choice. It would also assist the market if the Government revised the age 75 regime to allow some passing on of pension funds and for annuities to stand on their own as an option.
Ian Naismith is head of pensions market development at Scottish Widows
Drawdown will never replace annuities completely because most people are looking for secure, low-cost income in retirement. An annuity is ideal for that. Drawdown is more risky, relatively expensive particularly for those with modest provision, and requires regular reviews at a time of life when many people find financial decisions increasingly difficult. However, drawdown is likely to take an increasing share of the market among those with significant pension funds who want added flexibility in their retirement income.
As more and more people reach retirement with defined contribution pensions, demand for annuities may also outstrip supply, which will push people towards looking for alternatives. Added to this, if the Government relaxes the rules around age 75 the drawdown market will receive a huge boost.
Simon O' Connor is head of product marketing at Lincoln Financial Group
With people now facing a retirement period that could last as long as their working lives, it is becoming increasingly clear that conventional level annuities may not provide them with a sufficient income. Even with a modest inflation of 3% p.a., the buying power of a level annuity will more than halve over 25 years. When you consider that inflation for over 65s is currently running at around 7%, the problem is even more acute.
Although this is a bleak forecast for annuities, and while drawdown is certainly able to offer people greater flexibility, primarily because the fund remains invested in a favourable tax environment and could grow further, we do not believe that drawdown will replace annuities. Annuities will still have their place and the stable income that they provide will continue to attract customers.
However it also makes sense to consider alternative products, like Lincoln's i2Live, which allow customers to remain fully invested up to and beyond the conventional annuitisation point at age 75, therefore both giving the potential for a greater level of income and offering a minimum income guarantee option.
Ian Price is divisional director - pensions at St. James's Place
I personally do not see drawdown replacing annuities. We must not lose sight of the fact that for the vast majority of people in the UK, their pension funds are too small for a drawdown to be viable, so an annuity tends to be the most appropriate solution. I do not expect this situation to change significantly in the near future.
Where clients have sufficient pension funds as well as other assets available at retirement, drawdown should be considered. The key to drawdown is to understand the risks, and compare them with those involved in purchasing an annuity. People need to be aware that when purchasing a drawdown, they are taking on a mortality risk, i.e. the fund will have to last until death. Increasing life expectancy means that if care is not taken when going into drawdown, there is a danger of ending up with insufficient funds in years to come.
Looking to the future, what I expect will happen is that we will increasingly see more people taking an element of annuity and an element of drawdown, provided they have sufficient money available.
Chris Read is chairman at Dunstan Thomas
The simple answer is no. Retirement planning needs to take into account a client's financial situation and attitude to risk. Annuities provide a safe haven for clients who are looking for certainty without the concern of depleting a fund that may alternatively be used for drawdown. Drawdown provides a flexible approach to retirement income planning but care needs to be taken to not over utilise/consume funds. The annuity market is today showing significant innovation with the growth of non standard level annuities as well as impaired and guaranteed annuity offerings.
The guaranteed market is showing signs of becoming a significant force in the market, with providers such as Lincoln, Hartford and Met Life seeing notable success. The announcements by both Aegon and Standard Life that they plan to enter this market very soon illustrate the perceived opportunity for growth in this market.
David Seaton is director of consultancy at Rowanmoor Pensions
There is constant debate about how big a pension fund should be to warrant drawdown. Our view is that any fund under £250,000 should be looked at with care before considering drawdown. The costs of running the fund and managing the investments may significantly affect the pension paid via drawdown. For those with larger funds there is a good argument to support the view that drawdown is an alternative to annuity purchase pre age 75. However, there are other alternatives such as unit-linked and with-profits annuities, which also have a role to play.
For those with sizeable funds, there is clear evidence that mortality drag before age 70 is extremely limited, so delaying the purchase of an annuity makes sense, provided you do not believe gilt yields and annuity rates will drop significantly further and are prepared to accept a reasonable level of investment risk. Drawdown therefore makes very good sense for those with sufficient funds in their pension arrangement where the ongoing advice will not cost a disproportionate amount of the fund.
Although there is a good case for drawdown for people with sizeable funds, in excess of £250,000, I do not believe it will ever replace annuities.
Andrew Tully is senior pensions policy manager at Standard Life
I believe that the retirement income market in the UK will change fundamentally over the next five years. This will mean that fewer people will buy a traditional annuity than was the case in the past.
Income drawdown can offer substantial benefits and is likely to be the most suitable option for those clients who are prepared to accept an element of risk. Many people who aren't prepared to accept this risk don't like conventional annuities as they perceive them to be poor value.
The new style of guaranteed income products which are starting to appear in the UK market will offer another solution. They allow people to benefit from the investment upside while taking away the risk implicit in drawdown. History suggests that locking into gilts at a relatively young age will deliver significantly lower returns than investing in equities. In addition, the buyer can wait and see whether their fund value improves or annuity rates improve.
Rachel Vahey is head of pensions development at AEGON
The decumulation - or pensions harvesting - market is set to explode over the next few years, with some predicting a 20% increase each year for the next five years. As more people retire with a defined contribution pot the traditional choice between drawdown and annuities seems increasingly outdated. I hope we will see a market developing that gives people more flexibility and choice to more closely match changing income and longevity needs. New 'third way' products are emerging which offer solutions to those for whom neither drawdown or annuities are the perfect answer. They promise a guaranteed income within a drawdown setting, but alongside the opportunity for the investor to benefit from market upturns and increase income.
However, for many people buying an annuity will remain best advice, given their situation in life and attitude to risk.
Janette Weir is head of research at IQ Research
The last thing an IFA will want is for the pot of money that they have been so carefully nurturing for many years to be handed over to those nasty insurance companies, especially as the market moves from initial to fund based commissions. However, there are two key barriers to achieving this.
First, annuity pots today still average less than £30k, and it is difficult to see how drawdown could be in the best interests of these consumers. Once pot sizes exceed £50K when the DC market matures there is much more potential, but borderline customers will always need to be shielded from the harsh realities of a volatile stock market through a guarantee.
Second, in return for the tax break, the government will need to be persuaded that the pot of money will not be frittered away during retirement and that pensioners will not fall back into means tested provision. We already have restrictions on how much can be drawn down at any one time. Again, some form of guarantee would go a long way to countering concerns around market movements.
Research we conducted with last year certainly demonstrates that there is remarkable consensus about the potential for the Third Way product, with an estimated £2.5 billion to play for in the long term. I believe without such guarantees, drawdown will remain a niche product.
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