Anyone with a personal or defined contribution pension requesting retirement benefits will discover unless they have a valuable guaranteed annuity locked in, they will be offered a smaller pension at retirement than previously.
There are two reasons for this – annuity rates and longevity.
Annuity rates are the rate a pension provider offers a guaranteed income for life in exchange for a lump sum. Current annuity rates for a female taking retirement benefits at age 60, is 3.34%. So that female with a pension fund of €100,000, taking their retirement benefits now, will receive a guaranteed pension for life of €3,340 pa. Once accepted by an annuitant [pensioner] the annuity rate is guaranteed for life and cannot subsequently be reduced or cancelled. Therefore, pension providers need to have a balancing source of future guaranteed income and it comes in the form of Government bonds. Since the economic collapse of 2008, deposit interest rates and government bond yields have been at historically low levels. Safe haven bonds from Germany have been negative which means the pension provider gets a negative return on their money.
Longevity is how long people live. When setting annuity rates, a pension provider needs to know how long a person might live or how soon they might die. Mortality tables measure this across populations. In Ireland, figures from the Central Statistics Office on 8 July 2015, tells us that the average male aged 65 can expect to live for another 17.7 years and the corresponding figure for females is 20.6 years.
In general, the older you are when you purchase an annuity, the better the rate you should be quoted as your life expectancy falls.
To put it in context, a pension provider, looking at a pension fund from our 60-year old female above has to consider the following:
How much will I earn on this money? Bond yields suggest it’s less than 1% pa.
What is her potential life span? The tables tell us it is 24.96 years?
This is the average and for every person who will die sooner, one person will live longer.