Pensions: annuities

Individuals with defined contribution (DC) pensions build up a pension fund using contributions, investment returns and tax relief. The pension tax legislation in force until 6 April 2015 strongly encouraged the purchase of an annuity, allowing flexible or lump sum payments in limited circumstances. People do not have to purchase an annuity from the provider with whom they saved. Under the Open Market Option (OMO), they have the opportunity to choose who they purchase their annuity from. In its Thematic Review of Annuities, published in February 2014, the Financial Conduct Authority (FCA) said that some parts of the annuities market were not working well for some consumers.

In Budget 2014, the Government announced that from 6 April 2015 people aged 55 and over would have more flexibility about when and how to draw their DC pension savings, subject to their marginal rate of income tax. No-one would have to buy an annuity (HC Deb 19 March 2014 c793). The changes to pension tax legislation needed to implement this are in the Taxation of Pensions Act 2014.

In December 2014, the FCA published the interim report of its Retirement income market study. This reinforced the importance of shopping around. It also found that for people with average-sized pension pots, the right annuity purchased on the open market offers good value for money relative to alternative drawdown strategies and may therefore be a good option for those with low risk appetites.

In Budget 2015, the Government said it would change the tax rules from April 2016 to allow people already in receipt of an annuity to sell that income to a third party, subject to agreement from their annuity provider. The proceeds of the sale could then be taken directly or drawn down over a number of years, and would be taxed at their marginal rate, in the same way as those taking their pension after April 2015. It launched a consultation on Creating a secondary annuity market.

Other relevant Library Notes include SN 6891 Flexibility for DC pension savers from April 2015. Income drawdown is discussed in SN 712.