'Sovereign annuities' up to 30pc cheaper but there is a risk
Published 12/01/2011 | 05:00
IF you're in a defined benefit pension scheme, then the phrase 'sovereign annuity' is something you'll be hearing a lot about over the coming months.
Pension funds have always had the option of purchasing 'annuities' that guarantee an income stream for individual pensioners once they retire.
But the 'sovereign annuity' makes that option cheaper than before -- up to 30pc cheaper, according to experts from actuarial consultants LCP.
That 30pc isn't a magical boost that's been handed to the pensions industry by a greater force -- like most things in life, there's a trade off between risk and reward.
Sovereign annuities are similar to regular annuities, but they are linked to special Irish government bonds. The bonds offer high interest rates, echoing the high interest rates commanded by Irish bonds on the international market.
Those high interest rates mean that pension funds buying sovereign annuities need to spend less to secure a given income stream or pension for an individual.
So annuities become cheaper and pension funds are able to eliminate the funding risk of scores of pensioners at a lower cost than before, making the schemes appear healthier.
Meanwhile, individuals who migrate over to sovereign annuities are less likely to have their benefits eroded because it costs less for schemes to honour the original terms.