Reply to: Pensions, ISAs and Tax

[dude69]

and you no longer HAVE to take an annuity at age 75. You can have an "alternatively secured pension". The "pot of money" stays invested and under your control rather than given to an insurance co.

Still nothing like having your money free and unencumbered though is it?

The ASP is worse than income drawdown, because you only get 90% of the GAD rate (still better than 70% as it used to be).

And what happens when you die?

The money gets taxed at 70%......

As mentioned, pensions can pay for an ok retirement, but you are unlikely to see full return on your money as investing in an unencumbered vehicle.

[Lewis]

I, for one, value the comment and advice given by IR35 Avoider and a handful of others on CUK who give reasoned well-informed opinion (not hearsay of the ill-informed masses) on these and similar financial issues to allow those of us less knowledgeable to make our own decisions.

Thanks IR35 Avoider and keep the comments coming.

[Cheshire Cat]

Thanks everyone for your comments. Certainly given me something to think about.

[the guy with the bowtie]

I, for one, value the comment and advice given by IR35 Avoider and a handful of others on CUK who give reasoned well-informed opinion (not hearsay of the ill-informed masses) on these and similar financial issues to allow those of us less knowledgeable to make our own decisions.

Thanks IR35 Avoider and keep the comments coming.

[Fred Bloggs]

and you no longer HAVE to take an annuity at age 75. You can have an "alternatively secured pension". The "pot of money" stays invested and under your control rather than given to an insurance co.

[IR35 Avoider]

It doesn't much matter what your annuity returns are!

Having made the point that annuities don't have to be invested in Gilts, and that you can invest in higher-yielding things, and have control of your investments, I'd just like to add one more rather surprising thought; once you've retired and started spending rather than accumulating savings, it doesn't actually matter as much you might think what return the pot of money that is providing your basic income in the last phase of your life makes.

In "Valuing Wall Street" chapter 6 (where the authors are arguing that equities are generally over-rated) there is a table that indicates that over a 15 year period, an annuity based on index-linked Gilts would give an income only 9.2% lower than one based on equities.

The full table shows the reduction in income (for using index-linked Gilts instead of equities) is:-

Over 10 years, 6.1%
Over 15 years, 9.2%
Over 20 years, 12.2%
Over 25 years, 15.1%.

They also point out that the uncertainty created by an equity based income makes it "very tricky to actually get any benefit from the higher returns."

For this reason, and because of the possible benefit of avoiding a risk pool that contains particularly long-lived people, I'm currently prejudiced in favour of ordinary mass-market Gilt-based annuities, rather than more complex products I've drawn attention to in this thread.

[IR35 Avoider]

But I dont understand why you would want to use up and give away 75% of your capital.

You can undo the transformation of your capital into an income stream. Since an annuity is just life insurance in reverse, you can take out a life-insurance policy with premiums funded out of the excess income. As you will in effect end up with two insurance company products that cancel each other out (but both generate a profit for the insurance company at your expense) I suspect this would only make sense for those like me who are deriving maximum tax advantages from a pension. (I get 47% tax relief on the money I put in and pay 15% tax on the money I take out.)

(Just to be clear, I'm not planning to do the above; at the moment I have no-one I particularly want to leave money to, other than my wife, and she could inherit from my pension.)

I have no quibble with anyone who doesn't want to overfund their pension. A pension is the most tax efficient way for a contractor to build up (say) £300,000-£500,000 needed to provide for basic living expenses when retired. Once you are on target to have that, what you do with the rest of your money matters a lot less. As that money was going to be spent on that purpose anyway (regardless of whether it was in a pension or not) there is no real disadvantage to keeping it in the most tax-efficient home available.

I never meant to suggest that you should put more money into (the 75% part of) a pension that you want to use for any purpose other than taking an income in your retirement.

[IR35 Avoider]

Bah, these things are just designed to pay fees to everyone.

"The Flexible Lifetime Annuity is a complex product that isn't suitable for everyone and is therefore only available through Financial Advisers."

Sod that, why should I pay commission?

You can avoid the commission on adviser-only products by buying them via a discount broker like CavendishOnline. The product is cheaper than I previously said; for me (with the funds I would choose) the cost would be 0.8% of assets per year. That's more than I usually like paying, but in the overall scheme of things not bad. Capping what the insurance company gets at that level answers the criticism that annuities are poor value because insurance companies are making huge profit margins out of them. (Many people who hate annuities are happy to invest their ISA money in funds that charge 1% or more.)

How exactly is this supposed to be better than income drawdown????? It's just an expensive product with the same 120% of GAD limit.

Income drawdown has to end by 75, that age by which you have to buy an annuity. The point of this product is not to differ from income drawdown, but as far as possible to be the same, in offering you control over you retirement pot at a time when income drawdown is no longer an option.

"Flexible Lifetime Annuity offers a choice of 19 equity-based investment funds"




Choice???? 19 funds?

The choice is good enough for me to implement my strategy, but I agree that many people will be unimpressed. (My strategy only requires a choice of four particular types of funds, and in reality I'll probably only ever use two of those.) Remember that this is only one example of an annuity product that doesn't have to be invested in gilts. The Merchant Investors product offered complete freedom to invest in anything an ISA can, if I remember correctly.

[electronicfur]

I'll never agree with IR35 Avoider who is an annuities lover

They have their place in being useful to provide a basic gauranteed income for life. So there is an argument to use them as part of your pension planning to provide that basic income. But I dont understand why you would want to use up and give away 75% of your capital.

Say you were in a good position and have a pension pot of 1 million. Why would you give away 750k to buy an annuity? OK it buys you a lot of income, but you dont need that much gauranteed. I'd rather have the majority investing in a High Yield portfolio, living of the income. Then when I pop my clogs I can decide to leave it to the local cat home, kids, etc, rather than give it to an annuity co to pay for some city slicker's new porche.

Cheers,
EF

[dude69]

The gilt yield issue is related to inflation, so already answered. As for the not being allowed to invest in higher-yielding products, I have an answer for that as well...

A couple of years ago I came across brochures on the web (not there when I looked more recently unfortunately) for annuities that allowed you to invest the annuity pot in whatever you like and manage the investments yourself from year to year. One product was from Prudential, one from Merchant Investors.

I hope we'll see more competition to produce products like this in the future. The charges were something like 0.75% to 1% per year, in addition to any management charges on funds the money was invested in. The Prudential product only allowed access to funds, the Merchant Investors product gave you the extra option of having a stock broker account and trading shares.

One disadvantage I can see with these products is that the kind of people who buy them are likely to be especially long-lived, so you may not be putting yourself into the best possible risk pool. With these products, the insurance company doesn't shoulder mortality risk, you are in a pool with other product buyers, and the pots of people who die get redistributed to the rest as "mortality bonuses."

In addition to the above two radical products, various insurance companies do offer unit-linked annuities, where the underlying money can be invested in an equity or property fund, but sometimes they only offer a with-profits fund. The latter may give higher returns, but doesn't give enough control to make me happy.

Edit: I think I may have found the Prudential product again. Flexible Lifetime Annuity.

Bah, these things are just designed to pay fees to everyone.

"The Flexible Lifetime Annuity is a complex product that isn't suitable for everyone and is therefore only available through Financial Advisers."

Sod that, why should I pay commission?

How exactly is this supposed to be better than income drawdown????? It's just an expensive product with the same 120% of GAD limit.

"Flexible Lifetime Annuity offers a choice of 19 equity-based investment funds"




Choice???? 19 funds?

See here:

http://www.prudential.sp.co.gg/dsp_s...te=prucustomer

Sucky sucky sucky

[IR35 Avoider]

The gilt yield issue is related to inflation, so already answered. As for the not being allowed to invest in higher-yielding products, I have an answer for that as well...

A couple of years ago I came across brochures on the web (not there when I looked more recently unfortunately) for annuities that allowed you to invest the annuity pot in whatever you like and manage the investments yourself from year to year. One product was from Prudential, one from Merchant Investors.

I hope we'll see more competition to produce products like this in the future. The charges were something like 0.75% to 1% per year, in addition to any management charges on funds the money was invested in. The Prudential product only allowed access to funds, the Merchant Investors product gave you the extra option of having a stock broker account and trading shares.

One disadvantage I can see with these products is that the kind of people who buy them are likely to be especially long-lived, so you may not be putting yourself into the best possible risk pool. With these products, the insurance company doesn't shoulder mortality risk, you are in a pool with other product buyers, and the pots of people who die get redistributed to the rest as "mortality bonuses."

In addition to the above two radical products, various insurance companies do offer unit-linked annuities, where the underlying money can be invested in an equity or property fund, but sometimes they only offer a with-profits fund. The latter may give higher returns, but doesn't give enough control to make me happy.

Edit: I think I may have found the Prudential product again. Flexible Lifetime Annuity.

[dude69]

Lower rates is not the same thing as poor value.

Rates are much lower than they used to be, mainly because inflation is lower, but also because people are living longer.

They are just as good value as they've ever been; there's no reason to think the market is less competitive now than it was 15 years ago.

That wasn't what I was referring to.

The problem is the minuscule gilt yield, which does not offer value in the slightest. The problem is not so much the annuity, but the low-risk low-return products that they are forced to buy.

[IR35 Avoider]

yes but annuities used to be quite good. Now they suck.

Lower rates is not the same thing as poor value.

Rates are much lower than they used to be, mainly because inflation is lower, but also because people are living longer.

They are just as good value as they've ever been; there's no reason to think the market is less competitive now than it was 15 years ago.

It probably is true that there were some people who bought them at a very lucky moment, just before falling inflation and interest rates dramatically cut rates in the 1990's. Like people who happen to buy their first house at the bottom of the property market, they were simply lucky. People who bought 15 years earlier might have had similarly high rates, but they had higher inflation to contend with, so were really no better off than people buying at today's rates. In fact, if anything, low inflation and stability means annuities should spread the utility of your money across the rest of your life more accurately than they've done in the past, so in that sense they're probably better now than they've been for many decades.

[IR35 Avoider]

You will never, ever, ever, ever, ever, ever, ever, see 75% of the money in your pension again. Under any circumstances. And you won't get access to even the income or the 25% for potentially many years in the future.

That sucks considerably. How much does is the true worth of that money? It is a big big weight against all your arguments above.

In my case the 25% will be available in 12 years time, I guess I might feel different if I was 25. One way to deal with this if you're young might be to repay your mortgage at a rate that will allow the 25% to pay off the balance. Repaying at a slower rate gives you more to spend in the short-term, and in a sense you are spending some pension money early. Provided your mortgage is at a competitive rate this is a very rare example of where borrowing to spend is reasonably sensible.

As for not seeing the 75%, I guess (with apologies if I'm wrong) that you are one of those people who hates annuites based in their incomprehension of the central principle of insurance. To you, a man who insures his house against fire is an idiot throwing his money away, if it doesn't burn down, or a genius making a massive return on his investment, if it does. You think the wisdom of a choice is determined with hindsight by the way things actually turn out.

The point of an annuity is to provide the basic income you need to live on for (approximately) the last 15 years of your life. All the 75% will, in a probabilistic sense, be used for that purpose. (A small amount, less per year than some seem willing to pay to active fund managers, will go to the insurance company.) For those not planning to rely on the benefits system, relatives, or the lottery, this is money they are going to have to save and spend anyway, so it's not wasted.

If you choose the non-annuity route, you risk not maximising the utility of the money earmarked for providing your basic income during this portion of your life. If you die with some of it unspent, unless the value of the extra bequest (in addition to other money already set aside for that purpose) is worth as much to you as paying the gas bill or your sky subscription or for your "personal care" would have been had you lived longer, then you've partially wasted that money. (I will be very hard to convince that the utility is that high for you.) If you run out of money, it will mean that some of the money spent in earlier years was spent on things of lesser utility than it could have been spent on after you'd run out, so some of it was wasted.

In short, even if annuities weren't compulsory, everyone who intends to provide for their own old age should buy one.

You ask what the "true worth" of the 75% is; what more important purpose can money have than paying for your basic living expenses?

(I think the insurance companies should pay me for the amount of talking up annuities I do in this forum.)

Are you employed by a Ltd. company? The maximum contribution is £225k/year.

If you are paying that in, all I can say is I clearly need to put my rate up.

Where I said SIPP I meant ISA, of course. I will edit my post.

[dude69]

I have a question .... my wife has no pension. The idea is we live from mine, what happens when I die. Do I purchase an annuity that pays her a pension when I die or do we need to put something in place before retirement?

you don't have to buy an annuity. You can keep it invested in whatever you like and withdraw a maximum of 125% (?) of the annuity amount as the pension payment. You can then pass the pension pot on to your wife when you die. When you reach 75 the rules change though.