Alex had always thought of himself as something of a pioneer in pension planning. In 1995, at the age of 53, he had been to see his adviser and asked whether he could take some money from his pension plan. He had then been introduced to annuity deferral or ‘income drawdown’.
His adviser had explained to him at the time that income drawdown was a new facility and that until just a few months before he would have had to buy an annuity with his pension fund. There was always the option of phasing-in annuity purchase by taking it out in tranches.
As an early adopter, Alex had been keen to try income drawdown and fully appreciated that, whilst he was giving away the certainty of an annuity in lieu of an income based on investment returns, he would benefit from the extra flexibility of not having to make an everlasting decision about the shape of his benefits.
Alex realised that drawing his pension at age 53 was still fairly early and therefore he wanted to keep his options open.
He knew roughly what his life expectancy could be and realised that retirement would likely be a long period of time. He also knew what the effects of inflation could do to his cash over such a long time period and did not want to tie himself in.
Over the years Alex had experienced some investment volatility but had drawn an income from his fund and had just about maintained his annuity purchasing power. He had quite a low income requirement relative to his fund and his attitude to risk was cautious. There had been a couple of challenging times due to falling gilt yields, but his adviser had steered him away from taking GAD maximum rates, suggesting that this could put pressure on the fund. Instead, he advised Alex to supplement his income from other sources when required.
Overall, drawdown had done what he wanted it to do, allowing Alex to maintain flexibility whilst drawing an income from his pension.
So, with Alex’s memory getting worse he met his adviser for his review meeting, at which they spent several hours discussing Alex’s affairs, including his investment strategy and his attitude to risk – just as they had done many times before. When the time came to sign-off the agreed strategy (as Andrew was appointed on an advisory basis) Alex could remember very little of the discussions – the unwelcome ‘senior moment’.
This concerned Alex. He had always taken pride in the fact that he was on top of his financial planning strategy and knew exactly how everything worked. Anything other than that was a real worry.
One thing he did remember was Andrew talking to him about buying an annuity. The best rates with a spouse benefit would buy him an income in excess of what he needed, and he would not have to consider his investment strategy anymore – his retirement income would simply turn up each month into his bank account and he might even get an enhanced annuity if underwritten.
His wife was considerably younger than him, so a spouse’s benefit was vital. Another factor that Andrew had started to explain to him was mortality cross subsidy. He understood the nature of the cross subsidy underlying annuities, and that mortality drag would mean an increased investment return would be needed to match the underlying performance of an annuity (whilst only a couple of percent per annum at age 70, this would increase rapidly the older he got).
As Alex saw it, there were two options; he could buy an annuity, or he could maintain his drawdown plan but ensure that he kept up his review meetings, making sure that his wife or his eldest son were in attendance too, so that the onus was not all on him.
Perhaps it was time to lose the worry and buy the annuity – the peace of mind would be worth a whole lot to him and sometimes it is the value of the good feeling that overrules the financial aspects!
Mike Morrison
Head of Platform Marketing
AJ Bell