Unless the Government has a dramatic U-turn anyone over 55 will have greater access to their pension pot from April next year.
That’s fine for anyone retiring after April 2015. But there are thousands of people who want to retire before then, perhaps accessing their tax-free lump sum and deferring turning the rest of the pot into an income, until the new rules are finalised and new products launched.
There are a number of solutions to this problem, one of which is the newly launched one-year Fixed Term Annuity from LV= and Just Retirement.
The launch of these products has been met with scepticism from much of the financial press, as well as pension experts and commentators. So we thought we’d take a look at the products, compare the returns and ask, what are the advantages and disadvantages of a one-year Fixed Term Annuity?
“How does a one-year Fixed Term Annuity work?”
A one-year Fixed Term Annuity is a place to ‘park’ your pension pot, having taken your tax-free lump sum, until the new rules come into force.
It works like this:
- You buy the Fixed Term Annuity (the name itself is confusing as it doesn’t pay you an income) with your pension fund, having taken the tax-free lump sum you require
- You then select a fixed term (hence the name of the product!) for which you will tie up your pension pot; in this case one-year
- The provider will tell you at the outset what the Guaranteed Maturity Amount (GMA) will be in a years’ time.
When the Annuity comes to the end of the one-year term you will have a range of options, including:
- Rolling over into another Fixed Term Annuity, perhaps taking an income this time
- Income Drawdown
- An Annuity
- Any new products which have been launched in the meantime.
“What returns can I expect?”
Two companies currently offer a one-year Fixed Term Annuity; LV= and Just Retirement.
The table below shows the Guaranteed Maturity Value for a range of fund sizes:
Pension pot size before tax-free cash Pension pot size after tax-free cash LV= Guaranteed Maturity Amount Just Retirement Guaranteed Maturity Amount
£50,000 £37,500 £37,613 £37,524
£100,000 £75,000 £75,228 £75,713
£150,000 £112,500 £112,832 £113,903
£200,000 £150,000 £150,450 £152,092
It’s fair to say the returns are not overly attractive, in fact after taking account inflation, and after any adviser fees have been deducted (which aren’t included in the above examples), a loss will be made.
But for most people the objective isn’t growth, but increased flexibility; allowing them to access their tax-free cash, whilst leaving their remaining pension pot in a safe place until April 2015.
“What are the advantages of a one-year Fixed Term Annuity?”
In our view the advantages of a one-year Fixed Term Annuity are limited, but include:
- It will of course give you access to your tax-free cash
- You will know at the start of the Annuity what it will be worth in 365 days’ time
- The future value is guaranteed
- It is a relatively simple solution
What are the disadvantages of a one-year Fixed Term Annuity?
- The returns are relatively poor
- Our figures show that at current rates of inflation a real-terms loss will be made
- Other options may produce a better return
- You run the danger of paying two sets of fees if you buy a one-year Fixed Term Annuity now and then another retirement income product next year
- If you die during the year any lump sum paid to your spouse will be taxed at 55%
“What are the alternatives?”
There are a number of alternatives to consider:
- Deferral, doing nothing is all too often an overlooked option. The new rules will be introduced in less than a year, could you delay your retirement or use other savings to tide you over until April next year?
- For anything but the smallest pension funds our research shows that a deposit account held in a SIPP (Self-Invested Personal Pension) produces a better return – read the full article by clicking here
- If you are prepared to take some degree of investment risk, both now and in the future, you could use Income Drawdown
- Pension providers can now allow you access to the tax-free lump sum and up to 18 months to decide on how to convert the remaining pot into an income. This will be an option for some, although as the Guardian recently reported some pension providers, for example Legal & General and Friends Life, have systems which cannot cope with this recent rule change
“Is a one-year Fixed Term Annuity right for me?”
Of course everyone’s own circumstances are individual to them, but we believe the times when a one-year Fixed Term Annuity is the right choice will be extremely limited.
Whilst you will get access to your tax-free lump sum, the returns are poor, in fact after inflation and fees are taken into account you will lose money. Furthermore, you may well double up on charges, and there is quite possibly a better option.
Whilst we welcome innovation in the retirement planning market, on this occasion, there are probably better alternatives to accessing your tax-free lump sum.
“Do you need help planning for your retirement?”
Our team of Independent Financial Advisers are experienced in developing retirement income strategies for clients the length and breadth of the UK. If you are approaching retirement and would like advice on your options call one of our IFAs today on 0115 933 8433, alternatively enquire online or email firstname.lastname@example.org