In the March 2015 Budget, the Chancellor announced additional pension freedoms to those with an individual annuity already, allowing individuals to sell or reassign their annuities to third parties. Initially, this was scheduled to begin in March 2016 but the expected start date has been pushed back a year to March 2017. The Treasury and DWP ran a joint consultation between March 2015 and June 2015 in respect of the practicalities of doing this.
We believe there are a number of strong reasons why an individual may want to sell their annuity, including:
- the ability to control wealth and assets (to reconfigure income, obtain a lump sum, alter the investment characteristics, reduce tax)
- the ability to pass on wealth on death
- identifying that the current low rate environment is a good time to sell an annuity
- to capitalise on knowledge asymmetry (e.g. about their health)
The first three are valid reasons for a market and the last has received a lot of attention, however, the market won’t last long if customers are able to take advantage of such knowledge.
The key challenge for individuals considering selling is the ability for them to get appropriate advice and ensure that they receive value for money. Perception of the value of their annuity may be lower than actual meaning they may take a poor value amount.
"The key challenge for individuals considering selling is the ability for them to get appropriate advice and ensure that they receive value for money. "
The main opportunity for current annuity providers is that you may be able to sell a new product to the policyholder and make extra profit from the original sale on top of the annuity which continues, albeit with a different owner. The products that will be wanted are those currently being designed for the first wave of pension freedom individuals. Obviously, an open market will be encouraged and there will be more competition for these funds, however, the existing provider will clearly be well placed to provide an alternative offering.
The challenges for the existing insurers are predominantly around admin system changes and death notification but these should be surmountable, especially as an admin charge is expected to be allowed.
It should be noted that it is not expected that an annuity will be allowed to be surrendered so the existing provider should not be exposed to selection risks. However, the existing insurer will lose contact with the policyholder which may reduce cross-selling opportunities.
So, a third party is required to purchase the annuity. This could well be another insurer but pension funds may also like the longevity hedge.
The investor is going to have to address the knowledge asymmetry and will therefore need to have knowledge of applying medical underwriting. There will still be some residual risk and we expect that the yield required will have to be greater than that on corporate bonds for investors to come to the market. Individuals will therefore probably have to place a high value on at least one of the reasons given above, apart from a pure value decision, to consider the sale.
"The investor is going to have to address the knowledge asymmetry and will therefore need to have knowledge of applying medical underwriting. "
So does that mean we will be left with a big enough market? There is currently £250bn of annuity assets and a recent YouGov / IFoA survey suggested that 33% of individuals would potentially be interested. If just 10% choose to take up the option then we could get a £25bn market, more than sufficient to be of interest to many investors. Most of the activity is expected to take place initially, although the steady stream of new bulk annuity policies (approximately £10bn p.a., and growing) should help keep the market going as people who have not had the opportunity to access pension freedoms jump at the chance to do so. Existing annuity providers may be less keen but they may be hit with compulsion from the government if it is sufficiently wanted by individuals.
It should also be noted that this proposed market doesn’t help those receiving a defined benefit (DB) pension. This may lead to buy-outs becoming preferable to buy-ins for trustees and their members, who would then get access to these freedoms. This seems arbitrary and it may mean the government extends the freedoms to those with DB pensions - then we would have a large market place!
As part of the Autumn Statement on 25 November, the government announced that they do intend to remove the barriers to allow individuals to re-assign their annuities – effectively giving second hand annuities the green light. More details are expected in the consultation response due in December.
Scott Eason and Michael Henderson presented at the IFoA’s Life Conference on 19 November on the topic of the secondary annuity market. This blog summarises the presentation and the discussion afterward.