Passing on your pension
If you want a secure, guaranteed income for your retirement, an annuity might be the way forward.
What is an annuity?
An annuity is an income product you can purchase using your pension savings; in essence, you’re using your pension pot to buy a regular income. The income you receive depends on the value of your pension and the annuity rate offered by the provider. You can also choose whether your income will be guaranteed for life or over a fixed term.
As with all retirement income products, you can purchase an annuity from 55 years old (rising to 57 in April 2028) and take up to 25% of your funds as tax-free cash.
When choosing an annuity, it is important to consider your individual needs and financial goals. You should also compare rates from different providers to find the best deal.
So, let’s get into the nitty-gritty of the two types of annuities.
Lifetime annuity
What is a lifetime annuity?
A lifetime annuity guarantees a secure, stable income for the rest of your life, regardless of how long you live. Your pension won’t run out, but you also can’t make changes to your level of income or frequency of payments.
The income you receive, either annually or monthly, is decided at the outset by your provider and is based on the size of your purchase fund and the annuity rate offered at the time.
Things to consider
Although a lifetime annuity has little risk involved, there are a few things to consider before purchasing one:
- Once your policy is agreed, you can’t make any changes.
- If your circumstances change, you can’t come out of a lifetime annuity – you’re ‘locked in’.
- Most annuity incomes remain the same throughout the plan, which is known as maintaining a level of income. In these cases, inflation will reduce the real-term value of your payments over time due to increases in the cost of living. Your adviser will discuss this with you and may recommend an escalating annuity to counter this.
- If you’re looking for flexibility or the opportunity to review your options periodically, then drawdown or a fixed-term annuity may be more suitable.
Fixed-term annuity
A fixed-term annuity provides a guaranteed income for a set number of years, offering financial stability and peace of mind. You lock in current annuity rates for the duration of your chosen term, ranging from a few years to several decades.
How does a fixed-term annuity work?
As with all retirement income products, you can take up to 25% of your fund as a tax-free lump sum. The remaining amount is your ‘purchase fund’ and is used to set up your annuity.
When purchasing a fixed-term annuity, you choose how long you’d like the plan to run (typically a minimum of three years) and how much income you’d like to take during that period. Your annuity provider will then offer a guaranteed maturity amount which is the amount your fund will be worth at the end of the plan. This will also allow you to see the final annuity rate offered.
How much of the fund is returned depends mostly on how much income you plan to take over the plan’s term; the more income you take, the lower your maturity value will be. In extreme cases, it could be as low as zero, so it’s important to think carefully about how much income you’ll need to cover expenditures.
Watch our quick video to see a fixed-term annuity in action.
What happens when my fixed-term annuity matures?
When your plan ends (or ‘matures’), your guaranteed maturity amount allows you to reconsider your options. At this point, you might decide to get another fixed-term annuity, or you could move into a drawdown or opt for a lifetime annuity.
Your circumstances and financial goals may have changed since you first took out your annuity. Therefore, it’s crucial to seek professional financial advice to understand the best option for your current needs and explore the most competitive annuity rates in the market.
Things to consider with a fixed-term annuity
Before you lock in your annuity rates with a fixed-term annuity, it’s important to weigh up these key factors:
- Once you’ve purchased a fixed-term annuity, the terms are generally set. You won’t be able to make changes or access your funds until the end of the term.
- Like with lifetime annuities, your income tends to stay the same throughout the plan’s duration. Your adviser will discuss this with you and may recommend an escalating annuity if inflation and real-term value are concerns.
- If you need more flexibility or prefer actively managing your pension pot, drawdown might be a more suitable option. Drawdown allows you to access your funds.
How are annuity rates calculated?
Annuity providers determine how much income they’ll pay you by considering the size of your purchase fund and the annuity rate.
Annuity rates are closely linked to interest rates, so they tend to follow the Bank of England’s base interest rate. However, providers will also incorporate several other factors into the rate they offer to you.
This includes:
- Your age
- Your health and lifestyle
- Where you live
- Any added extras, such as taking out a joint-life policy or the inclusion of death benefits.
Boost your annuity rates with health and lifestyle enhancements
Because your annuity rate is linked directly to your personal circumstances, your health and lifestyle can significantly impact the annuity rate providers offer.
Throughout our lives, we see the negative impact that our health and lifestyle can have on financial products such as life insurance. But at retirement, it’s quite the opposite. If you smoke, drink, are overweight, or have medical conditions such as high blood pressure or diabetes, you could be eligible for an enhanced annuity rate.
That’s why it’s vital to share your medical history with our team when we ask for these details. This allows us to find you the best-enhanced rates, giving you a higher potential income in retirement.
Here are just some of the conditions that could lead to enhanced annuity rates:
- Diabetes
- Asthma
- Heart disease
- High blood pressure
- Cancer
- Kidney failure
- Smoking
- Obesity
How do you compare annuity rates?
At My Pension Expert, we search the whole of the market to compare and secure the best possible annuity rates for our clients. You can find out your potential annuity income and compare other retirement options by speaking to one of our retirement specialists today.
Comparing all options and securing the best possible deal can be daunting, so My Pension Expert does all the hard work for you
Tailor your annuity
When taking out an annuity, there are a few additional options to consider. Just note that some features may affect the annuity rate available to you. Our retirement experts can help you understand what these options mean and whether or not they are right for you.
You can personalise your annuity to match your specific retirement goals. While the core purpose of an annuity is to provide a guaranteed income, there are various options and features you can add to create a solution that perfectly fits your needs.
In addition to the options below, you may also wish to consider adding death benefits to your annuity.
Choose a payment frequency that suits your lifestyle
You’re not just securing a guaranteed income when you purchase an annuity. You’re also choosing how often you receive that income.
While annuity providers typically quote rates annually, you can choose a payment frequency that aligns with your personal needs and financial habits.
- Monthly
- Quarterly
- Half-Yearly
- Annually
Regardless of your chosen payment frequency, you can also choose whether to receive those payments in arrears or in advance.
Not sure which payment frequency is right for you?
Our retirement specialists can help you understand the implications of each option and choose a payment schedule that best suits your lifestyle and financial plan.
Escalating income
You may come across the term ‘level income’ when comparing annuity quotes. This simply means that your annuity payments will remain the same throughout the life of your plan. While this provides predictability, it doesn’t account for the rising cost of living.
That’s where escalating annuities come in. Here, the income you receive increases annually either by a fixed chosen amount or by measures such as inflation or the retail price index. While you may start off with a lower income level, having it increase over time can help you future-proof your finances, making sure your payments maintain their real-term value.
Our team of independent financial advisers can explain all your options and provide a tailored recommendation to make sure your pension is in the best possible position to meet your needs and retirement goals. So, why not get in touch?
