An annuity was once a common way to create income from a defined contribution (DC) pension. But when the British government introduced Pension Freedoms legislation in 2015, annuities fell out of favour with many UK retirees.
Now, due to persistent high inflation and the subsequent rise in interest rate, we're seeing significantly better payouts. So, it may be wise to add them to your thinking when planning for your retirement income.
Annuity rates have increased almost 50% since the start of 2022
According to research reported in PensionsAge, annuity rates have increased by 20% in the 12 months to June 2023. Since the start of 2022, the total increase adds up to 48%.
This increase has added more than £25,000 to the total lifetime income that a 65-year-old man might expect to receive from an annuity, and more than £27,500 for a 65-year-old woman.
Certain factors will affect the annuity rate you may be offered. These include your age, health, and lifestyle. As a result, a young, healthy person is likely to receive a lower annuity rate as the provider will expect to pay a regular income for longer.
Should you wish your annuity to provide an income that rises with inflation or covers your partner, you should also expect the rate to be lower.
A variety of annuity products offer different income opportunities
There are a range of annuity products and rates can vary significantly between different providers.
- Lifetime annuities provide a fixed income for the rest of your life.
- Enhanced annuities tend to pay higher levels of income but may require you to meet certain eligibility requirements.
- With-profit annuities link income received to underlying investment performance.
- Deferred annuities are linked to investment performance and funds are left to accumulate for a set period.
With multiple options and various factors influencing the amount of income you can guarantee through an annuity, people often find annuities confusing.
In spring 2023, Canada Life surveyed 2,000 UK adults, 955 of which were aged 50 and over. The research revealed that:
- 1 in 5 over-50s think annuities are poor value
- 44% of over-50s believe they are inflexible
- 45% thought they were risky and that you could lose money if you died earlier than expected.
With so much misconception around annuities, read on to find out the pros and cons of choosing an annuity to fund your retirement.
4 benefits an annuity could offer
1. An annuity will provide income for the rest of your life
These days the average retirement can last several decades. As a result, having a reliable income for the rest of your life may provide invaluable peace of mind.
Buying an annuity means you don’t need to worry about running out of money in later life or that withdrawals from your pension will continue to be sustainable over the long term.
2. Your income will be less susceptible to market volatility
Alternative ways to provide your retirement income often means your pension savings remain invested. This may mean that the value of the pension could be adversely affected by market volatility, which may affect your plans.
The income you receive from an annuity is not exposed to the same risk.
3. You can opt to buy an annuity that is linked to inflation
One important consideration for many retirees is the effects of inflation on their retirement income.
Inflation is a fact of life, and while much of the world have experienced an extended period of high inflation following the worst of the Covid pandemic, even when inflation is at more normal levels, you should expect to need a larger income in the future.
While not all annuities are linked to inflation, it’s an option that can help to preserve your spending power for the rest of your life and help you meet long-term retirement goals.
4. An annuity could provide an income to your partner
If you’re planning your retirement as a couple, one important consideration is how a surviving partner would manage financially if the other passed away.
While the idea may be hard to stomach, facing up to the potential as you plan today could help you take appropriate steps to ensure long-term financial security for the surviving partner.
This is where a joint annuity may be helpful, as it will continue to pay an income – often a proportion of the original income – to your surviving partner. This can provide peace of mind should either one of you pass away earlier than expected.
3 drawbacks of buying an annuity
1. You could miss out on potential investment growth
A popular alternative to buying an annuity is flexi-access drawdown. Typically, this option means that your pension remains invested, allowing the potential for growth during retirement.
Since you’ll need to use money from your pension to buy an annuity, you’ll be removing a good chunk of your savings and could mean you miss out on this potential growth.
Remember though, while investing your retirement savings provides an opportunity for growth, it isn’t guaranteed.
2. An annuity cannot be passed on
Although you can buy a joint annuity to provide an income for your partner, if you pass away, you can't pass on the benefits of an annuity to anyone who isn't named on the policy.
You could end up receiving less from an annuity than the amount you purchased it for.
3. You may be subject to high management fees
Before you buy an annuity, make sure you check what fees are involved.
Some providers may charge high management fees, and this could reduce your income.
An offer that appears attractive initially may not be as good as it first seems once you account for the charges that may apply. This is something we're very familiar with. We can help you understand your options and navigate towards an appropriate option.
Get in touch
We’re here to help you understand if an annuity is right for you. We’ll help you make an informed decision based on all your circumstances and lifestyle goals.
So, if you’d like to explore your retirement income options or are thinking about taking out an annuity, please get in touch.
Email enquiries@alexanderpeter.com or give us a call on +44 1689 493455.
Please note
This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.
The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Your pension income could also be affected by the interest rates at the time you take your benefits. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.
