What is the Annuity purchase process?
Purchasing an annuity can be quite a long winded process from the member’s point of view.
Let’s look at the process so you can help the member understand the timescales involved.
1. ANNUITY QUOTATION
The annuity quotation is an estimate of how much the member will receive and it is only valid for a certain amount of time.
The insurance company needs to be provided with all the relevant member information and details of the options they have chosen to tailor the annuity to suit their personal circumstances. The purchase price used should be based on the latest fund value available from the investment manager.
Quotations can normally be obtained from insurance companies within 24 hours of the day of request. Once received, you must check the details carefully before passing the information onto the member as errors can create misunderstandings or unrealistic expectations.
Remember, members will be making decisions that may affect their well-being in retirement.
The quotation is guaranteed for a fixed period of time, normally 10 days but it may be less.
This guarantee relates to the annuity rate used which takes into account the member’s age.
Say at age 65 for every £10,000 purchase price the member receives £10 p.a. income - due to fluctuating investment conditions in the market this rate is highly likely to change after the guarantee period has expired and instead of £10 p.a. the member could find they only receive £5 p.a. for every £10,000 purchase price (NB these are hypothetical not true market rates).
At this stage the purchase price cannot be guaranteed as the funds have not normally been disinvested. This potential fluctuation must be made clear to members.
It is important for the member to realise the timeframe within which they have to make their decision known as they also need to allow enough time for the funds to be disinvested.
2. ANNUITY PURCHASE
Once the member has accepted a quotation, the funds should be immediately requested from where they are invested.
Note – this may require certain authorities to be obtained from trustees so you need to make sure that all parties are aware of the quotation expiry date.
The member must also provide all the necessary completed forms and other documentation such as birth and marriage certificates or passports. Insurance companies will only accept original documents.
Once the funds have been disinvested, the amount is the purchase price of the annuity. It is prudent to check if the purchase price has changed much from the amount used in the quotation. If it has gone down then let the member know and explain the reasons why, this is much better than leaving the member to find out much later when a lower amount goes into their bank account thus the member is disappointed or moved to complain.
Assuming the purchase price is not too different and you are within the deadline, then there should be no concerns for the member.
If the funds are received after the guarantee date has expired then you will need to advise the member and obtain fresh quotations for their consideration. This could mean that another provider is able to offer a better rate and a new form will be required for completion by the member.
3. RECEIPT OF ANNUITY INCOME
Although the annuity purchase transaction goes through relatively quickly, it can be several weeks before the member sees the first income payment in their bank account.
Annuity payments are taxed under PAYE so the member should be aware that he or she will receive the net amount, after tax. No National Insurance Contributions are deducted.
You have no control over this part of the process and unfortunately this delay can often turn into a complaint from the member. To prevent this happening, it is important that the member has been made aware at the outset that it may take 6 to 8 weeks from the purchase date before they see their first payment, this will help them plan their finances.
When the purchase has been completed then the confirmation letter should state again that it may take 6-8 weeks before they receive any money.
4. ANNUITY POLICY
This is normally issued a few weeks after everything has been completed.
Where the funds have come from and/or the scheme rules determines who the policy owner is. For example:
What happens on the death of an Annuitant?
The benefits payable on the death of an annuitant will depend on how the annuity has been tailored.As mentioned earlier in "Can an annuity be tailored?”, the benefits may be:
1. Annuity Protection Lump Sum Benefit/Pension Protection Lump Sum Benefit
2. Dependant’s Annuity/Dependant’s Scheme Pension
3. Beneficiary’s Annuity
We will look at each one in turn.
1. ANNUITY PROTECTION LUMP SUM BENEFIT/PENSION PROTECTION LUMP SUM BENEFIT
An annuity protection lump sum benefit (or a pension protection lump sum benefit if the annuity is a scheme pension) relates to any guarantee that was incorporated if the member died within the guarantee period, and if it was to be paid as a lump sum.
| UNDER AGE 75 | AGE 75 OR OVER |
| If the member was under age 75 when they died, the lump sum is payable tax free. | If the member is age 75 or over at the date of death, the lump sum is taxable. Whether the lump sum death benefit is subject to income tax as pension income of the recipient or to the special lump sum death benefits charge (45%) on the scheme administrator depends on who receives it. Further details can be found in the Pensions Tax Manual - https://www.gov.uk/hmrc-internal-manuals/pensions-tax-manual/ptm073010 The scheme administrator will usually deduct any special lump sum death benefits charge before the payment is made to the recipient. |
Alternatively, if the member’s pension was to continue for the remainder of the guarantee period, this would be paid to the recipient and taxed at their marginal rate of income tax.
2. DEPENDANT’S ANNUITY/DEPENDANT’S SCHEME PENSION
A dependant’s annuity or a dependant’s scheme pension would be paid to the spouse or civil partner at the time of the member’s death and taxed at their marginal rate of income tax.
3. BENEFICIARY’S ANNUITY
From April 2015 the term beneficiary extends the recipients from dependants to nominees and successors.
| NOMINEE | SUCCESSOR |
| An individual nominated by the member who is not a dependant. | An individual nominated by a dependant, nominee or successor of the member. |
Joint-life annuities may pay out to any beneficiary or a beneficiary annuity may be purchased from a drawdown fund.
| UNDER AGE 75 | AGE 75 OR OVER |
| The beneficiary’s income is not taxable if the member died before age 75. | If the member is over age 75 at the date of death, tax will be payable at the beneficiary’s marginal rate of income tax. |
Alternatively, if the member’s pension was to continue for the remainder of the guarantee period, this would be paid to the recipient and taxed at their marginal rate of income tax.
A beneficiary’s annuity can also be purchased using uncrystallised funds, in which case, entitlement to the annuity must arise within two years of the member’s death.
As uncrystallised funds would be used, it will trigger a LTA test.
