The big picture – Fixed term income plans are popular because they don't lock people in for life.
What's the problem? – Lifetime annuities have a poor reputation because of miss-selling. Could fixed term suffer the same fate?
What can de done? – Make sure they are sold / advised properly e.g. end commission bias.
It seems like some of the fixed term income providers have scored a PR own goal recently. Some of the insurance companies offering fixed term plans issued press releases boasting about the increased sales of fixed term and this has resulted in some negative reaction.
L&G and LV have both seen a surge in applications for fixed term annuities during the coronavirus crisis.
For purists like me, these are not annuities at all but a subset of pension drawdown. But there is no need to get het up about terminology as all we need to know is that a fixed term plan normally pays a guaranteed income for a set period of time after which the proportion of the capital is paid back into the pension plan.
There is nothing wrong companies writing about increased sales, but providers shouldn’t be surprised if an eagle-eyed journalist spotted there was a catch. The result was an article in the personal finance section of the Times on June 13 with the heading “Annuities that pay less than savings accounts”.
In this article it was pointed out that the underlying interest rate for the average fixed term plan was less than could be obtained from simply investing the money in a cash account. For example, LV provided an example of a 5-year fixed term plan with an underlying return of 1.3% whereas the highest paying 5-year savings account will pay 1.6%.
Care must be taken when comparing these two different things as we are not strictly comparing apples with apples. But the example shows that at the moment annuitants are only getting their own capital back plus a very small rate of interest.
Lifetime annuities have a poor reputation because of dubious selling practices by life companies and non-advised brokers in the past and there is a concern that the same fate may happen to fixed term plans.
The reason to be concerned is that although there is a strong case for fixed term plans in the right circumstances, these plans are very easy to sell to less sophisticated investors who think lifetime annuities are legalised theft and drawdown is too risky.
It is true to say that a fixed term plan has no investment risk because both the income and the maturity value is guaranteed so as a short-term investment they do what it says on the tin. But they are not as risk-free as they might seem because they do not necessarily help retirees achieve a sustainable income over the longer term as there is no investment growth.
However with lifetime annuity rates close to the all-time low it is not unreasonable to expect rates to be higher in the future therefore increasing the chances of securing a higher income in the future from the maturity value.
There is a strong case for fixed term income plans in certain circumstances, but it does not follow that fixed term is right for everybody so there is a danger that that if sales are rapidly increasing proportion of the sales may be unsuitable especially if there is no advice given.
If fixed term income plans are not to suffer the same fate as lifetime annuities care must be taken to ensure they are marketed correctly and steps must be taken to ensure that clients understand all the relevant information, risks and associated costs are explained.
There may be a tendency for non-advised brokers to regard fixed term as an easy sell because it is easy to be critical of lifetime annuities and drawdown.
Whereas as advisers will consider all options and recommend the most suitable solution for the individual circumstances.
There is also the question of commission bias. Annuities are the last bastions of commission sales and commission is paid on non-advised fixed term sales which may result in product bias.
Regulated advisers are fee based and cannot be paid commission so there advice is not influenced by commission payments.
An edited version of this article was published in Money Marketing on June 25th 2020