While government has emphasised the increased flexibility for pension savers, who can now retain ownership of their pension savings rather than hand them over to a pension company to purchase an annuity, government will also raise the tax due when funds from pension schemes are left to children and heirs. As a result, the flexibility to pass on your pension savings to your children will now involve tax rising from the current 35% to a flat rate of 55%.

In other words, pension savers will forfeit over half of any portion of their pension savings they leave in their will.

In reality, most people will still find purchasing a pension annuity to be the more attractive option, although it is no longer compulsory. However, new EU rules known as Solvency II will require pension companies and providers of pension annuities to hold more capital in reserve, which may cut annuity rates, with a corresponding onward effect on pension incomes.

The government is also reviewing public pensions, which is has called unaffordable, and a final strategy will emerge with the Hutton Report before the March 2011 budget. This is likely to usher in higher employees contributions to public sector pensions, and a continuing changeover from the generous final salary pensions to defined contribution pension schemes.

Teachers, firemen and nurses are likely to be hardest hit by the upcoming review of pension schemes.

Every week of delay by companies helping you convert your savings into pension income can cost you up to £127, according to new figures just revealed by Virgin Money.

A 65 year old man with pension savings of £100,000 in his pensions pot could stand to receive an annual income of £6,651, once his annuity has been set up. This means a weekly income of £127. The corresponding pension income for 1 week for a woman would be £120 – slightly lower because women have higher life expectancy than men, and draw their pensions for longer.

Virgin calculates, therefore, that a pensions annuity provider that drags its heels in setting up a pensions annuity will cost the above savers £127 and £120 per week, respectively.

With the worst offenders among pensions annuity providers taking up to 50 days (10 weeks)  to complete the transaction, the losses for the man and woman spiral to £1,270 and £1,200 respectively.

Shop around with your pensions savings

Further losses of pension savings can be unwittingly incurred by those who do not compare annuity rates, as part of their pensions planning.

A recent spot check on pension annuity rates, again using a pension fund of £100,000, found that the best annuity deal at that moment gave a pension income of £5,628 per year, while the lowest, from a different household name provider, gave pension income of just £4,632 in the same month.

This means that, simply by shopping around with their pensions savings, annuity purchasers could add £996 per year to their retirement income, enhancing their annual pension income by almost 20%.

Good information is crucial – because making a poor choice when buying your pensions annuity can cost you thousands of pounds in lost pension income.

The difference between the best and worst performing annuities is significant, and is continuing to grow, according to the MGM Advantage Annuity Index published this month.

As an example, from April to June 2010, the difference between the best and worst enhanced annuities would have cut 16.78% off your pensions income.

MGM stated that, over the average retirement, men could stand to lose £10,129 in pension income, while women’s pensions income could have been down by £11,351, due to an underperforming annuity purchased with a £50,000 pension pot.

Even focusing on just the first 5 years of retirement, men buying a bottom quartile annuity (i.e. annuities in the bottom 25% by performance) could lose £2,152 in pensions income, and women £2,837.

The widening of the annuities gap between best and worst is also growing at a rapid rate. Both men and women would now (July 2010) receive over £600 less in pension income for the first five years of retirement, compared with what they would have got just 3 months ago. This timing issue makes it essential to take unbiased financial advice from an independent financial adviser, when buying an annuity.

On approaching retirement, consumers are often unaware of this crucial need to ask for unbiased financial advice on ‘shopping around’. Retirees often believe that they are obliged to purchase their pensions annuity from the company which handled their pension fund. This is untrue – in fact, they have what is known as the Open Market Option (OMO). This guarantees their right to use independent financial advice to locate the right pensions annuity, from all available on the market.

Would you like unbiased financial advice on buying an annuity? Ask us for pensions advice online or ring freephone 0800 678 5929 now.

 A lack of understanding of pensions annuities is costing pensioners thousands of pounds, according to a new survey by Aviva.

Lack of understanding leads to uninformed choices by those who do not avail of financial advice as they approach retirement, choices which could have dire financial consequences, the Aviva report shows.

Almost two-thirds of over-65 couples do not take out a joint annuity, even though this option leaves an annuity income for the surviving partner, when the first partner dies. In fact, 54% of consumers over 55 do not understand what a joint life annuity is, according to Aviva.

The vast majority of those surveyed also showed a lack of understanding of how health conditions should impact on their choice of annuity.

Most believed that being obese, a smoker or heavy drinker would reduce your pension income, whereas these conditions actually increase your payout, as they are deemed likely to shorten your life expectancy (and therefore the length of the term of the payout).

Aviva estimates that 40% of people could benefit from taking an impaired or enhanced annuity, which provide a higher monthly income to those with health conditions.

Many retirees also fail to realise that they have the option not to buy an annuity at age 65, and that, by waiting if they can, their eventual annuity income will be higher. The law allows a retiree the option to postpone purchase of an annuity until age 75.

A person aged 62 with a pension pot of £29,600, for example, would realise a monthly income of £151, according to Aviva. By waiting to purchase the annuity for ten years until age 72, that person would increase this monthly income to £199.

Indeed, the basic understanding of what an annuity is and does seems lacking in over-65s, the very group who could benefit from this knowledge.

This group did not understand that purchasing an annuity with their pension savings was one route to providing themselves with a regular income. Only 4% of those in this age group rightly stated that an annuity provides an income in retirement, while the remainder of respondents believed that their income would come directly from their personal pension or company pension.

Twenty per cent of pensioners will soon be living on a monthly income of less than £750 a month*.

At the same time, the monthly bills for housing, gas and electricity, travel and clothing will average £490, leaving those worst-off pensioners with just £40 per week for food and other living expenses.

“It is concerning to see that many people may be struggling to get by on such a low income in their later years,” said Aviva director Clive Bolton.

A combination of factors has led to increased impoverishment among pensioners. While a stock market downturn has ravaged returns on pension savings in the last decade, resulting in much smaller average pension pots, the problem has been increased due to a simultaneous drop in annuity rates, which dictate the income available from those pensions savings.

The average pension pot was £103,000 in 2000, but has fallen to just £40,000 today.

“While we often think of retirement as ‘golden years’, the reality is that for a lot of people, the outlook is much bleaker,” Clive Bolton said.

*Source: Aviva Real Retirement Index, February 2010

New data* shows yet again that pensions savers need to put aside every single pound available to them, and also seek quality independent financial advice on their pensions investment, in a climate that is looking increasingly bleak for future retirees.

Hard figures for pensions savers

A pensions saver who contributed £100 per month to their pension pot over 20 years would have achieved a retirement income of £9,000 per year, if they had retired in 2000.

The same pensioner retiring on 20 years’ savings today would have an annual income of just £2,500, a drop of 70% over the decade.

Fall in pensions and annuity rates

This radical slump is due to a fall in both the returns on pension investments, and in pension annuity rates.

A pensions annuity is what you purchase with your pension savings, to convert them into an income for life. The annuity provider then makes a monthly payment which, for most, is the keystone of their income in retirement. The level of this payment is based on the annuity rate.

A male pensioner in 2000 was retiring with an average pension pot of £103,000. Today, that has shrunk to just £40,000.

The pensioner in 2000 could obtain a far better pensions annuity rate of 8.6% as well. The average today is 6.2%.

*Source: financial researcher Moneyfacts

Planned increases in the state pension age are likely to lead many to use income drawdown in their retirement planning, as they seek out ways to tap into their personal pension before they reach state pension age.

Changes in state pension age

The state pension age is now 65 for men and 60 for women.

For women it will rise to 65 between 2010 and 2020. Then it will rise, for both sexes, to 66 between 2024 and 2026, to 67 between 2034 and 2036, and to 68 between 2044 and 2046.

These rises could be introduced sooner, depending on the outcome of the general election, as the Conservatives have expressed a desire to push forward change as quickly as possible.

As a result, those wishing to retire early may have several years to fund themselves, in order to bridge the gap until the state pension becomes available to them.

Income drawdown

With this end in mind, many may consider income drawdown as an alternative to the traditional annuity, which is available for ten years, until the purchase of an annuity becomes compulsory at the age of 75.

With income drawdown your savings remain invested in the stock market, making it a more risky strategy than purchasing an annuity right away.

Additionally, there are several other important issues to consider, before taking the income drawdown option.

With income drawdown, you can take or drawdown larger amounts from your pension savings, compared to what you would have had from an annuity payment. You can also choose to take lesser amounts, or none at all from time to time, making this a good option for those who are continuing to work part-time, for example.

With income drawdown, your income is taxed on a PAYE basis. However, your pension remains your money, and can be left to your family if you die, whereas if you had bought an annuity your money would become the property of the insurance company.

With income drawdown, you are dipping into your pension pot. This means that, if you draw down more than the yield from your investments in any given year, you are eating into the capital in your fund. This is why, in recent years, many pensioners who drew freely on their savings as stock markets were in decline were eroding the total amount of their retirement savings.

The ABI has urged pensions providers to make greater efforts to remind savers of their right to ‘shop around’ when purchasing their pension annuities, and assist them to maximise their retirement income.

In new guidelines published this month, the ABI has requested a general overhaul of the quality and nature of information on pension annuity options provided to those approaching retirement, in the ‘wake-up’ packs they receive from their pensions provider.

The new guidelines echo a similar call that was made by the ABI in the early part of this year, and indicate that pensions providers are still not going far enough to make customers aware of the choice of pension annuity products available to them.

The ABI has requested substantial improvements from pensions providers in six key areas:

• Providers should stress in their communication the importance of the information contained in the wake-up pack
• Make clear the Open Market Option (OMO) or right to ‘shop around’ for pension annuities, and stress the importance and benefits of doing so
• Clarity on the timeline for taking benefits
• Promotion of the Pension Advisory Service’s online financial planner
• A longer lead time for customers than the four or six months’ notice currently given by the arrival of the wake-up pack
• Improvement of the OMO transfer processes

“This new guidance will help ensure people get clear, valuable and understandable information at the point when they are making hugely important decisions about how to turn their pension savings into an income in retirement,” said the ABI.

Your annuity income in retirement may now be decided by where you live. Four of the nation’s largest insurers are using locational information to predict the probable longevity of customers seeking a pension annuity.

Using data such as that provided by pensions consultancy Watson Wyatt, the insurers Aviva, Legal & General, Prudential and Canada Life are now looking first at your postcode, before calculating the annuity rate they will offer you.

If you live in an area where people are deemed to be more healthy, then you may live longer. As a result you may be ‘penalised’ for your good health, as you will probably draw your retirement income for longer. In fact, your retirement income from your annuity could be 3%-7% lower than for someone in a ‘less healthy’ postcode area, who is expected to die earlier.

Watson Wyatt’s research has shown that male longevity is highest in the SE of England, where the town of Montacute, Somerset leads with field with a male life expectancy of 90. At the other end of the scale, the shortest expectancy of 82 for a male in Kilbirnie, Ayrshire is three years short of the national average.

Retired workers in Kilbirnie may have worked in the town’s steelworks or flax mills, while Montacute is a non-industrial village in an agricultural area. While Kilbirnie has 13 fast food outlets for 8,000 people, the residents of Montacute attribute their longevity to their tradition of market gardens, and a diet rich in fresh fruit and vegetables.

Watson Wyatt predicts that insurers will be paying much closer attention to wealth and lifestyle data by postcode in the future, pointing out that the unexpected improvements in mortality over the past 20 years are now contributing to much of the financial strain experienced by pension funds and occupational pension schemes.

An ‘Immediate needs annuity’ is designed to provide the costs of paid-for nursing home care for life, for those already suffering from physical or mental disability, and who are no longer wishing or able to live at home. 

The annuities are bought with a lump sum, but can now offer a guaranteed partial payback if the person in care dies within a short time of buying the annuity. 

The facility is designed to alleviate the fears of customers or relatives who hesitate to invest so large a sum, when the person to be cared for may live for only a short time, after the purchase of the annuity. 

AXA offers 3-month or 6-month insurance guaranteeing 25%, 50% or 75% payback on the annuity, according to Brian Fisher, LTC marketing manager. 

The shorter-term options of just 3 or 6 months are the key to making the cover affordable to the customer, Fisher said. 

“Our 6-month, 75% cover can typically add just 5% to the cost of the annuity,” Fisher said. 

“That compares with the cost of long-term, 75% payback protection, which can add as much as 40% to the cost of the annuity, because you are insuring the lives of very old, very sick people.” 

One restriction on the guarantees is that the benefit cannot go outside the estate of the annuitant, for Inheritance Tax purposes, he said. 

Partnership is another provider which introduced the guarantees on its annuity products earlier this year, and offers a payback if death occurs within the first six months of the policy. 

With Partnership’s guarantee, the purchase price of the annuity will be repaid in full if death occurs within 1 month after buying the policy, 50% will be repaid if death occurs in months 2 and 3, and 25% will be repaid if death occurs in months 4, 5 and 6. The costs of payments already made to the nursing home will be deducted.