Laura du Preez | 02 September 2021
Laura du Preez has been writing about personal finance topics for more than 20 years, including eight years as personal finance editor for two leading media houses.
Choosing a pension at retirement is no longer always a matter of picking either an investment-linked living annuity or a guaranteed annuity, leading annuity providers say.
Using both pension product types in a hybrid annuity can be a better solution for many retirees as it can give you a higher income at a lower risk, actuaries representing annuity providers told a recent Actuarial Society of South Africa (ASSA) webinar.
An investment-linked living annuity is the favourite choice of South African retirees, as this annuity offers you and your adviser the ability to choose the underlying investments and, within limits, the pension you draw from it.
Only one in ten retirees choose an annuity that guarantees an income for life, with no risk, but typically provides only for you to leave an income for the life of a surviving spouse when you die.
Three wishes denied
Karen Wentzel, the head of annuities at Sanlam, told the webinar that at retirement, retirees want three things:
However, neither a living nor a guaranteed annuity can currently satisfy all three of these things.
While a guaranteed pension protects you from the investment and longevity risks, this product does not satisfy the other two requirements, Wentzel said.
An investment-linked living annuity gives you some flexibility and allows you to potentially leave a legacy for your family, but many retirees who opt for this product face the real risk of poor returns and living longer than their capital is able to provide a growing income, she said.
At a recent Financial Planning Institute (FPI) Retirement and Investment workshop, Wouter Fourie, an independent financial planner and former winner of the FPI’s Financial Planner of the Year, said retirees are damned if they do and damned if they don’t, as each product has benefits and each has flaws.
Mixing the two for the best of both
Fortunately, hybrid annuities can offer a better bet, but retirees and their advisers need to learn more about how pension products have evolved, Johann Swanepoel, product actuary at Just Retirement, told the ASSA webinar.
Fourie told the FPI conference that research in 2018 by local actuaries John Anderson and Steven Empedocles has shown that many retirees can maximise the amount they have to spend on their needs by using a newer guaranteed with-profit annuity to provide a high proportion of their initial income.
However, this strategy needs to be complemented by drawings from savings invested in a living annuity, he said, and ideally the costs on these products for individuals should be more in line with those offered to bigger investors like retirement funds.
Wentzel told the ASSA webinar that using part of your retirement savings to buy a guaranteed pension allows you to draw a higher pension at less risk than you could with one or the other type of pension.
Advice is crucial
The amount you allocate to each pension type depends on your personal circumstances – such as how much retirement savings you have, how much discretionary savings you have and how much investment risk you can afford to take and can tolerate.
This makes it important to get advice relevant to your circumstances, Wentzel said.
Fourie and Bruce Cameron, co-authors of the book The Ultimate Guide to Retirement, told the FPI workshop, that it was essential for each retiree to get individual advice that includes modelling your cash flow in retirement based on all your savings.
Cameron said that for many retirees the idea of leaving a legacy is a joke as they have not saved enough to provide for themselves.
Fourie said that instead of focussing on the returns you can earn if you opt for a living annuity, you should focus on the income you need and can generate. You need to switch your thinking from an investment framework to a consumption framework, he said.
Wentzel said general advice would be to use a guaranteed annuity to:
Wentzel said if you provide for your base income with a guaranteed annuity, it allows you to use a more aggressive asset allocation for the balance of your savings to potentially earn some upside or good returns.
Hybrids work-around hurdles
Poobalan Govender, who represented Momentum as the head of income solutions when the ASSA webinar was held in June, said current regulations deny retirees full flexibility to split their savings between different annuity products at retirement and to make partial transfers from living annuities to guaranteed annuities after retirement.
Hybrid annuity products have evolved to overcome these regulatory hurdles.
National Treasury has proposed a change to the Income Tax Act to make it possible to split your savings at retirement between more than one annuity. If approved by parliament, this will take effect from March 1, 2022.
However, the change does not currently provide for you to move only some of your savings out of a living annuity and into a guaranteed one after retirement – if you want to switch you must switch all of your savings.
Know your type
Swanepoel said hybrid annuities can either be:
The living annuity hybrid allows advisers to earn ongoing fees on all the investments in it.
This can avoid a conflict of interest for advisers who may be less inclined to recommend a guaranteed annuity on which they can only earn a once-off fee, Swanepoel explained.
Cameron said advisers should not earn a fee on the guaranteed income part of any hybrid annuity, but Swanepoel argued that the advice you need on a hybrid annuity is more complicated and advisers need to determine the optimal blend of the annuities.
However, he said, there is nothing stopping you or your adviser from applying the advice fee to the investment portion only.
