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Until a few years ago, impaired life annuities were available on a one-off underwritten basis but they were not marketed for the Open Market Option (OMO). It is only since the arrival of specialist companies and standardised enhancements that competition has come into the marketplace.
With an impaired or enhanced annuity, it is the mortality return that increases because the insurance company expects your annuity to last for a shorter period of time.
Enhanced or impaired life annuities are not just about heart attacks and cancer. A basic enhanced annuity is available for smokers, but can also benefit people with high blood pressure or who are overweight. An enhancement is also available if you have spent a good portion of your working life in a hazardous occupation, such as mining.
Everyone should exercise their OMO to check whether a higher income is obtainable from another company when they are converting their pension fund into pension income. However, for one group of pension savers it is vital that they exercise this option. This group is not a small number - research indicates that up to 25% of people are eligible for an enhanced or impaired life annuity when they retire.
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The income from an annuity, whether a conventional guaranteed type or investment-linked, is made up of two parts:
the investment return:
the yield in the guaranteed annuity
the growth of underlying investments in an investment annuity, and
the mortality return:
essentially this is the return of your capital over your expected lifetime.
A few years ago the smoker annuity from Stalwart - now GE Life - was the only standard enhancement. Now Britannic, GE Life and Prudential all have standard enhancements that do not require individual underwriting.
Annuities giving standardised enhancements are based upon tables, for example smoker = +5 per cent, heart attack and continuing medication = +10 per cent. They do not depend upon the individual - the individual is made to fit the table.
This standardisation obviously reduces costs and, as systems have become more sophisticated, the ability to fit individual circumstances to pre-set tables has also become more accurate. This has led to individual underwriting not being required by some companies even with more serious conditions or complicated multiple conditions.
Those suffering from these more serious or multiple conditions should still obtain quotations from firms that provide individually underwritten impaired life annuities. Obtaining these illustrations will involve both more form filling and the possibility of your GP being asked to provide a medical report. This takes time and should be built into your pension planning process.
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Until the past year or so, it was generally the case that if you were particularly sick then an underwritten impaired life annuity would provide a larger increase than any of the standardised enhancement tables. However, with the growing sophistication of the tables, there is now considerable overlap.
Recently a man of 62 with periodic heart failure and spinal stenosis found his best rate through individual underwriting. He got a 17.5 per cent higher income than the best normal Open Market Option rate - more than 25% better than his existing pension company.
So people who are sick or have particular lifestyles can get higher annuities than those in good health, but you must always make sure that the enhanced rate is better than the top rate available for a healthy person from another company. For example, currently the difference between the Britannic smoker rate for a 60 year old woman and the top normal rate is on 1.7%. At times this advantage may disappear altogether.
If you are looking for joint life benefits, checking against normal rates is even more important. The companies offering increased annuity rates as a result of lifestyle or illness increase their own normal rates and, if their own normal rates are low, enhancement may not be sufficient to beat the most competitive normal rate. For example, if the second life in a joint life annuity is fit and younger than the first, and the normal rates for the firm offering impaired or enhanced rates are relatively poor, it is vital you check against the best normal rate.
If, on the other hand, your enhancement is very substantial, the insurer is telling you that you will have a very shortened life expectancy. In such circumstances it may be desirable not to take an annuity at all from your pension fund and to seek income from other sources, remembering that, if you were to die before the age of 75, your pension fund and its entirety will pass tax-free to either your spouse and/or to your dependants. In these cases drawdown or, more importantly, phased drawdown can also be used. These options again mean that an annuity need not be purchased until you reach 75 years of age or your condition improves.
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For cases of very severe impairment where there are no direct financial dependants, the insurance company occasionally may offer annuity rates guaranteed for five years that would be the equivalent of an annuity certain. Here the insurer is saying that they have no expectation that the life will survive for the five year period. Any remaining income in this instance is paid to the estate.
What you need to remember when looking at impaired life annuities
Shop around for the best rate but only after you have established what type of pension income you need - joint life, guarantee period, etc.
Remember that a fit second life and/or a guarantee period can reduce the effectiveness of the enhancement.
Check that the enhanced rate is better than the best fit life rate.
If you have a relatively serious condition or more than one condition, remember that individual underwriting provides even better annuity rates but this takes time.
If the enhancement is very large an annuity may be inappropriate and you should consider using other funds to provide pension income or drawdown.
The impaired life annuity market is becoming more competitive and you can now obtain investment-linked annuities where the mortality return is enhanced.
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PENSION COMPANIES THAT PROVIDE ENHANCED AND IMPAIRED LIFE ANNUITIES
|
Company |
Enhancement |
Underwriting |
With profits/investment-linked |
|
AXA Sun Life |
7
|
3
|
3
|
|
Britannic |
3
|
3
|
3
|
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GE Life |
3
|
3
|
7
|
|
Guaranteed Underwriting |
7
|
3
|
7
|
|
MGM |
3
|
7
|
7
|
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Pension Annuity Friendly Society |
7
|
3
|
7
|
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Prudential |
3
|
3
|
3
|
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Scottish Widows |
7
|
3
|
3
* |
*Scottish Widows also provide a unit-linked contract
AN INDICATION OF SOME OF THE INCREMENTS AVAILABLE
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Top normal rate |
Overweight |
% increase |
Smoker |
% increase |
Combination of conditions or advanced condition |
% increase |
|
Male 65 |
8756.76 |
8872.56 |
1.32 |
9228.12 |
5.33 |
9920.28 |
13.3 |
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Female 60 |
7239.00 |
7292.28 |
0.7 |
7362.00 |
1.7 |
7901.16 |
9.2 |
Based on £100,000, 5 year guarantee, monthly in advance
Source: Annuity Direct
Stuart Bayliss, Director, Annuity Direct
Tel: 020 7684 5000
Reproduced with kind permission of Investor's Chronicle, 9-15 November 2001
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