A letter in the Times yesterday stated that the new Government will remove the requirement to buy an annuity at retirement, resulting in pensioners running out of money. It also implied that the sole reason for making this change was to increase the Government’s tax revenue. This is incorrect on a number of levels.
First, people can already draw a taxable income from their pension fund in the period up until age 75, at which point an annuity must be bought. What the Government has said is that this requirement to buy an annuity by age 75 will be abolished. This is an important distinction since it shows that there is already considerable flexibility in the way in which retirement income can be taken, and that this has not caused the sky to fall in.
If an individual chooses to draw an income up to age 75 rather than buying an annuity at retirement, there is an upper limit on the amount that can be taken each year to ensure that the fund is not exhausted. Until 2006 there was also a minimum amount, to ensure that the Government was not deprived of tax revenue for too long.
This implies that compulsory annuitisation is itself designed to ensure that the Government can benefit from tax revenue from funds that until that point have enjoyed the benefits of tax relief, so you wouldn’t expect the removal of compulsory annuitisation to increase the level of tax received by the Government, particularly if the increased flexibility is used by the wealthy to retain the pension fund in full as a tax exempt investment vehicle. A better way to raise more tax would be to reinstate the minimum amount of income that must be taken each year before annuitisation, continuing this limit beyond age 75 if compulsory annuitisation at this age is scrapped.
Nor would the removal of compulsory annuitisation at 75 necessarily result in people outliving their resources. The upper limits on the amount of income to be taken could easily be extended beyond age 75. There is, though, an issue around income provision in extreme old age – unexpectedly reaching your centenary could certainly stretch your finances if you’d chosen not to buy an annuity. However, problems could be avoided with the compulsory purchase – by age 75 – of an advanced life deferred annuity providing an income from age 85 or even later. The high rates of mortality at these ages mean that buying an annuity at age 75 that does not pay out until age 85 wouldn’t have too great an impact on your pension fund.
Whilst annuities do offer certainty, they also respond badly to the changing income needs of pensioners. The current levels of flexibility do much to address this, and there is no evidence that this flexibility has led to pensioners spending themselves into poverty. With limits on the levels of income taken and compulsory provision for extreme old age, removing compulsory annuitisation could increase further the range of opportunities open to pensioners.