The argument for whether or nor to defer an annuity purchase is well worn, but I would like to revisit it, considering the age of falling interest rates in which we live.
There are approximately 700,000 50-year-olds in the UK, according to the Office of National Statistics (2007). There are similar numbers of 49, 51 and 52-year-olds who will have a similar dilemma.
Those of the 700,000 that hold a private pension have just over a year to decide whether they take their pension before April 2010 or wait until 2014 (or they reach 55 following the increase in the lowest retirement age).
Annuity rates remain relatively high, having increased nearly 15% over the last three years, and the general expectation is that they can only go one way in the next two to three years - and that is down.
Current annuity rates for a fund of £100,000 with Legal and General would provide an income of £5,970 per annum (male standard rates/level income/no spouses/guarantee five years) for a 50 year old and £6,344 per annum on the same basis for a 55 year old. (Source Assureweb)
So assuming a 5% per annum net return on the investment over five years, and annuity rates remaining constant, our 50 year old could look forward to an income of £8,096 per annum, an improvement of £2,126 per annum (35% increase) over his available income at 50. His total gross annuity income received in deferring his annuity purchase to age 55 will catch up with the annuity started at age 50 by the time he is 68.
The key phrase in the example above is if 'annuity rates remain constant'.
Interest rates have fallen dramatically over the last few months, and while not directly correlated, it is widely expected that annuity rates will follow suit sooner rather than later.
A 10% fall in annuity rates by the same individual's 55th birthday with the same investment return will result in a fall of income by unsurprisingly 10% to £7,286 per annum, and this pushes back the 'break even' age for the two annuities to 73 from 68.
A fall of 15% pushes the 'break even' age back further from 68 to 85 which is beyond the life expectancy of an average UK male 50 year old of 79 (Government Actuarial Department 2005-2007 Interim Life Tables).
The table at the bottom of the page summarises the effect of falling annuity rates on the fund outlined above compared to current rates (8th December 2008).
I feel that the lower growth rate of 5% is reasonable, as in my example, this individual is going to take his pension within five years of this decision, and so a low-risk approach to investment would be the norm.
Obviously, normal disclaimers apply, and the one thing we can be certain of is that we do not know what the future will hold. It is all about managing risk, and falling annuity rates is a risk for all those saving for retirement, in particular those nearing retirement, and especially those caught by the impending 50/55 retirement age trap.
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