A new report reveals that the average UK pension is 30% smaller than it should be - all thanks to our dreadful annuity market. We look at how to make sure you don't suffer.
Every year a new bunch of workers retire and get ripped off by the annuity system. Because many of these retirees buy the wrong annuity, they end up losing as much as £1 billion over the course of their retirement.
These figures come from a new report by the National Association of Pension Funds. The report reveals that these annual losses could rise to £3 billion over the next decade as more people retire with annuity-based pensions.
So why is this happening?
Shopping around for an annuity
A big part of the problem is that many people don’t shop around when they purchase an annuity. Remember that you can buy your annuity from any annuity company, so it’s worth searching the market and looking for the best deal. Our annuity calculator is a great place to start. Shopping around can boost your pension by 20% or more.
You can boost your pension further by buying an enhanced annuity if you’re eligible. These annuities offer higher incomes, and can be bought by smokers or people with less than perfect health. These folk are able to get higher incomes because their life expectancy is lower.
So when you’re looking for an annuity, it’s essential that you disclose all the health conditions that you may have. Amazingly, some companies don’t even offer enhanced annuities, so always check that you’re dealing with a provider that takes health and lifestyle issues into account.
However, the reduced size of many pensions isn’t just a result of non-disclosure and a lack of shopping-around. The NAPF’s report highlights some other flaws with our system:
The majority of employees in company pension schemes go for the ‘default option’ when they’re saving up for a pension pot. In other words, they can tick a box saying ‘default’ and don’t spend any time thinking about how their pension cash should be invested.
When it’s time to buy an annuity, they know very little and are ripe targets for rip-off insurance companies.
Small pension pots
If your pension pot is less than £50,000, it can be hard to get advice from an annuity professional as the potential commission is too low. This is a major problem as around 80% of retirees have pots worth £50,000 or less.
Employers don’t offer much support
It would be great if employers encouraged their staff to shop around for an annuity when they approached retirement. Most employers hand out a leaflet and leave it at that.
A general lack of transparency
There’s a general lack of transparency and information on pricing. Even some 'no-advice' annuity websites often don’t ask enough questions about lifestyle and health issues, so you may not be getting as large an enhanced annuity as you’re entitled to.
Dodgy practices by pension providers
There is some anecdotal evidence of ‘cliff edges’ where a £1 difference in the size of your pot can make a significant difference to your retirement income. Apparently, some providers also cut annuity rates when they know a large number of people are about to retire.
When you combine all these issues together, the average annuity-based pension is 30% smaller than it need be, according to the NAPF. Some pensions are as much as 50% too small.
So what can you do to make sure that you don’t suffer?
1. Shop around, shop savvy and maybe get advice
It’s essential that you shop around. Even if the site you visit doesn’t ask enough questions about your lifestyle and health, it’s still better to compare annuities than just accept the first offer from your existing pension provider.
Thankfully, lovemoney.com’s calculator does ask for a fairly detailed description of your health, but if you want to be certain you’re getting the absolute best deal, you could also seek advice from the likes of Annuity Direct or Hargreaves Lansdown.
When you use our calculator, plug in slightly different pot values just to make sure you’re not being hit by ‘cliff edge’ issues. If a slightly bigger pot will give you a significantly higher income, see if you can work for a couple of extra months and push up the size of your pot.
2. Delay retirement for longer
When you look at the annuity calculator, you may be shocked by how low your annual income will be. Even with the very best deal.
This is because annuity rates have crashed in recent years due to increased life expectancy and tumbling interest rates. So it may be worth working for longer to build a bigger pension pot.
3. Combine your pots
If you’ve had more than one job over your working life, you may have more than one pot. It’s worth combining your pots as you may get a better deal if you’re able to use one larger slug of cash.
4. Save, save, save
If you’re 32 or 62, try and save more if you can. More savings will give you a better retirement. And remember that you don’t have to do all your retirement saving via a pension. Make use of your ISA allowances, and you can build a much more flexible savings pot that you can use whenever you need it.
5. Annuity alternatives
When you come to retire, don’t forget you’re not obliged to buy a conventional annuity. You can instead go into income drawdown or buy a fixed term annuity. Read How to combat falling annuity rates and Why your retirement just got better to find out more.
Whatever you do, keep your wits about you and don’t get ripped off!
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