Selling Your Pension Annuities – The Risks
This article is for information only and no recommendation is being made or should be construed from the contents of the article. Always seek independent financial advice prior to taking any action.
In April 2017, a new market is being launched where pensioners can sell, or swap, their annuities for a cash lump sum. It is being introduced as an extension to the recent pension reforms to include people who have already bought an income for life with their pension pots, allowing them to reverse that deal.
An estimated five million people in the UK have an annuity and the government estimates that over 300,000 people will take advantage of this new system.
However, the FCA (Financial Conduct Authority) have recently stepped in to highlight the risks linked to this change. In a consultation paper released last month, the FCA said that, following an announcement from HMRC about possible changes in the punitive tax rules, the secondary annuity market would become more appealing to consumers, leaving some vulnerable and open to risks if they rushed to sell without considering potential consequences.
One of the biggest financial risks to be aware of is the tax implications. Even though HMRC are removing the current high tax rate (can be between 55% and 70% on the sale of an annuity), under the new rules from April 2017, individuals who receive a lump sum from selling their annuity will pay tax at their highest marginal income tax rate – with the current rates are levied at 20 per cent, 40 per cent and 45 per cent. This could mean that pensioners are pushed up into a higher tax bracket than usual, which would mean extra income tax on any payout.
The Government anticipates a £960million tax windfall over the first two years following these changes, which would work out at £3,200 a head if the HMRC’s estimate of the likely number of sellers is correct.
The FCA have also highlighted other risks linked to this new market such as individuals struggling to calculate what a good value for their annuity might be therefore being left out of pocket, the potential to fall victim to related scams, and people with debts could be put under pressure to sell their annuity to settle the bill.
Within their Consultation Paper, the FCA outlined their proposed rules around the new secondary annuity market to add a layer of protection for consumers.
Christopher Woolard, director of strategy and competition at the FCA, said: “We recognise that some consumers may be particularly vulnerable. We have set out proposed rules and guidance that will help ensure that consumers have an appropriate degree of protection should they decide to sell their annuity income.”
The FCA proposals include a requirement that sellers must seek financial advice for annuities over a certain value and, to support this, there will be an extension to the government-backed, free Pensions Advisory Service. To help customers decide whether they are getting good value, the brokers must provide sellers with a replacement cost assessment, outlining what it might cost if the annuity were to be bought new on the open market.
Also under the proposed guidelines, sellers must be given specific warnings of the risks early in the selling process, as selling an annuity may not be the right option for everyone and people could make a decision which they later regret.
All buyers and brokers wanting to operate in the secondary annuities market will need to be authorised by the FCA and the annuity will fall within the scope of both the Financial Ombudsman Service and the Financial Services Compensation Scheme.
The rules around this new market are still under discussion an d any action taken needs to be considered very carefully. If you would like more information on Annuities, or would like advice on your retirement options, talk to one of our experienced Financial Advisors at Prosperity IFA. Call us now on 01892 300 303.