Annuities

The Retirement Commissioner has brought annuities back into the news recently.  This is because of concerns as to how people will control their spending when they reach the age that they can access their KiwiSaver savings.  Buying an annuity is one of the options available to investors as their KiwiSaver investments mature when the investor is aged sixty five.

Annuities are a way of turning a lump sum investment into a regular income.  You pay a lump sum to an insurance company and in return, the insurance company will make regular, usually monthly payments to you.  These payments are a fixed amount.  They will continue for a set number of years, or until you die, depending on the type of annuity.  They are a very popular form of investment in Australia and the United States for retirement income purposes.  In New Zealand there has only been one provider of annuities, with only a few being sold per year.  Annuities have virtually died a natural death in New Zealand because of their current taxation treatment.

The retirement commission website has the following information on annuities.  “Before you buy an annuity check it out carefully.  There are only a small number of companies that offer annuities, so although they may be a good idea, the non-competitive market results in relatively low rates of return and relatively high expenses.  Talk to other retirees about their experiences and get some independent advice”. 

The KiwiSaver scheme has a major flaw.  It is discriminatory against those groups of people with lower life expectancies than the population as a whole.  Statistics show that female life expectancy is greater than that of males, and New Zealanders of European descent have a greater life expectancy than those of Maori or Polynesian descent.  If you cannot get access to your savings until you turn 65, a significant portion of the population will have limited time to enjoy the benefits of their savings.

If you decide to purchase an annuity, the provider will take into account your age and sex.  They cannot make any individual allowances based on ethnicity.  Annuities with payments guaranteed for life, therefore, are a better investment choice for those people who have an above average life expectancy than those with below average life expectancies.  As a guide, at the age of 65 for a male purchasing a $150,000 annuity, the payments would be around $834 per month and a female $762 per month.  These return figures suggest to us that there must be very high fees associated with this type of investment.   For those people aged 65, males are expected to live another 17 years and females 20 years.  It is expected that those who elect to buy annuities will live an additional three years according to the annuity provider.   Using those figures, it appears that the annuity provider is using extremely conservative investment returns of around 3% after tax and fees.

For annuities to regain some popularity in this country there will need to be tax changes as to how they are treated.  There will also need to be an increase in the number of providers, so that there is some price competition.  This would at least provide some competition which may effectively increase returns as fees are lowered.