The UK Chancellor, George Osborne, stunned the pensions industry when he announced the biggest changes to UK approved pension schemes in almost a century In the UK Budget last month.
Channel Islands policymakers are now considering whether to follow suit and allow people to take their pension as a lump sum rather than annuity on retirement. Whatever happens, it seems likely that the UK changes will have an impact on our ability to purchase annuities and annuity rates.
UK registered pension schemes are tax- advantaged vehicles that encourage people to save for their retirement. Under the current UK rules individuals reaching retirement age (which is any age from age 55) must take their retirement savings in the form of an annuity unless they qualify for what is known as ‘flexible drawdown’. Although an annuity provides a guaranteed income until death, with interest rates extremely low and rising longevity today’s annuities offer relatively meagre incomes.
Retirees forced to turn their pension savings into an annuity are often frustrated and angry that after a lifetime of saving, their pension pots will not provide enough money to make for a comfortable retirement. The requirement to turn pension savings into an annuity has also served as a disincentive for would-be savers, with many preferring to save in other tax efficient manners (but which do not restrict the age at which access to such savings can be obtained).
Prior to 27 March 2014, what is known as ‘flexible’ drawdown was permitted in the UK on retirement if the retiree could demonstrate a source of other income of at least £20,000. The purpose of this restriction was to ensure that the retiree could support themselves in old age without having to rely on the Welfare State. As of 27 March 2014 this limit of £20,000 has been reduced to £12,000 and from April 2015 this limit will be abolished, so that on retirement everyone will have the freedom to take all their savings in a defined contribution pension as a cash lump sum, subject to their marginal rate of tax.
This means that people will no longer be forced to turn their savings into a guaranteed income for life in the form of an annuity but will be able to use their pension pots like a bank account, dipping into it when they need to. This change has been seen by many UK commentators and pension experts as extremely positive.
Of course the counter view might be that as pension arrangements are tax-advantaged vehicles, and so effectively subsidised by the State so that the State does not have the sole burden of funding an individual’s retirement, the State should have the right to say how the pension pot is applied. Whether the State should have the right to say how pension pots are applied comes down to whether as a society we accept people will take responsibility for their financial future in retirement and whether the alternatives to an annuity will actually provide better longer-term benefits than an annuity in the event that we begin to see stronger growth in equities on the back of economic recovery.
Guernsey and Jersey registered pension schemes are also tax-advantaged vehicles that encourage people to save for their retirement. In both islands there is a requirement that the majority of the pension savings are turned into an annuity on retirement, by purchasing an annuity from an insurance company or paid from the pension pot itself.
Whether the Channel Islands follow the UK’s lead in removing the requirement for retirees to turn pension savings into annuities remains to be seen but with both Jersey and Guernsey pension regimes currently under review it is something that our islands’ policymakers will no doubt be considering carefully.
We too need to encourage people to plan for their retirements and if permitting flexibility to access savings encourages people to save then maybe we should be empowering Channel Islanders to do so.
If we do retain the requirement to turn pension savings into annuities we should seek to understand the impact the UK changes are going to have on our ability to purchase annuities. We are already faced with a shortage of annuity providers who are active in the local Channel Islands market and this might be compounded by the UK changes. Indeed, the shares in leading annuities providers fell by more than 40 per cent following the Chancellor’s Budget speech. It is unclear what will happen in this market and what impact it will have on annuity rates.
We should also bear in mind that if we retain the annuity requirement we will have less flexible, and arguably less attractive, regimes than the UK and this could impact on our pension industries on the international stage.