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Freedom, choice and equality

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Taylor Smith discusses the momentum that is gathering behind the Daily Mail campaign to allow people to commute annuities purchased before April 2015. 

Money Mail's ‘Unlock Our Pensions’ campaign wants to allow small payment annuitants who purchased their policies before the introduction of freedom and choice to cash them in for a lump sum. Six MPs have now signed a motion asking the Government to help those savers previously denied the option to cash in their pension pot.

Anybody working in pensions administration before 2015 will no doubt be sympathetic to the cause. A persistent issue before 2015 was the member caught in limbo with a pension pot larger than the maximum commutation limit yet lower than necessary to stimulate interest from the annuity market. With members questioning the logic of securing such small annuities and insurers refusing to quote for these policies, administrators were often caught in the middle of a fraught and challenging transaction with annuity purchase reflecting the only, and worst possible, outcome for all parties.

Before April 2015, if a member’s total pension rights exceeded £18,000 and their defined contribution pot was more than £2,000, then they were effectively locked into purchasing an annuity. With many providers unwilling to even quote for policies below £5,000 in value, many members ended up with embarrassingly small annual incomes at unattractive rates.

Caught between the vagaries of pensions tax legislation, with its arbitrary access limits and immutable pension scheme rules, both members and insurers have been left with policies they never wanted, and administrators were left administering transactions knowing it wasn’t in anyone’s best interest.

Since April 2015, defined benefit pension schemes have benefited significantly from the flexibilities introduced by freedom and choice. Most schemes have capitalised on the new trivial commutation limits by performing a bulk trivial commutation exercise. This gives pensioners receiving small pensions and/or deferred members with small pots the chance to exchange these paltry sums for a one-off lump-sum.

Through these bulk trivial commutation exercises, trustees have reduced liabilities and administration overheads and also improved the core data sets. At the same time, members have benefited from converting a tiny annual income into, in many cases, a significant cash injection. So, if DB schemes are so eager to provide the option, and can do so in the current legislative framework, shouldn’t the same option be given to all those people who were forced into buying an unwanted annuity?

Phoenix Life is one of the few insurers who has softened their position on the policy with an exercise in 2017 targeting 20,000 people asking them if they want to convert their annual income to a one-off payment. Citing a reduction in administration costs for the approach, the insurer conducted a similar exercise in 2013 where two-thirds of clients took up the option. Many DB schemes have already realised that they may be paying more for the annual cost of administering a record than they pay to the beneficiary.

A 2015 report published by the Citizen’s Advice Bureau points out that 49 per cent of UK households have net financial wealth of less than £5,000, a figure easily achieved by converting a pension of as little as £15 a month. Most administrators will have had to, at some point in their career, see a member buy an annuity knowing that it wasn’t in their best interest and didn’t offer the best value. 

Surely, it’s now time that the Government provides these members with the opportunity to unravel trivial policies in the same way that has benefited thousands of members and trustees in the defined benefit space. 

What is the value of freedom and choice, without equality?

Taylor Smith, Client Relationship Associate, Trafalgar House