Retirement should be something to look forward to, not worry about. For many people, knowing they have a guaranteed, reliable income for the rest of their life provides exactly the peace of mind they need to enjoy retirement with confidence. That is precisely what an annuity can offer.
What is an annuity?
An annuity is a financial product that converts some or all of your pension savings into a guaranteed income, either for the rest of your life or for a fixed period. You purchase an annuity from an insurance provider using your pension fund, and in return receive regular income payments, typically monthly. Unlike drawdown, where your income depends on investment performance, an annuity provides certainty – you will know exactly how much you will receive, regardless of how long you live or how financial markets perform.
Are annuities still relevant?
Absolutely. Whilst the pension freedoms introduced in 2015 gave retirees far greater flexibility over how they access their pension, annuities have enjoyed a significant resurgence in recent years. Rising interest rates have pushed annuity rates to their most attractive levels in over a decade, meaning that retirees can now secure a considerably higher guaranteed income than was possible just a few years ago. For those who value security and predictability, an annuity remains a compelling option.
Types of annuity
Not all annuities are the same, and selecting the right type is crucial. The main options include:
| Level annuity | Pays a fixed income throughout the term. Offers the highest initial income but does not increase over time, meaning its real value will be eroded by inflation over the long term. |
| Escalating annuity | Income increases each year, either by a fixed percentage or in line with an inflation measure such as the Consumer Price Index (CPI). Provides better protection against the rising cost of living, though the starting income will be lower than a level annuity. |
| Joint life annuity | Continues to pay an income to your spouse or partner after your death, either at the same rate or at a reduced level, typically 50% or 66%. An important consideration for those with financial dependents. |
| Single life annuity | Pays income only to you and ceases on your death. Offers a higher income than a joint life annuity but provides no ongoing benefit to a surviving partner. |
| Enhanced or impaired life annuity | Pays a higher level of income to those with certain medical conditions or lifestyle factors that may reduce life expectancy. Qualifying conditions can include heart disease, diabetes, high blood pressure, certain cancers, and smoking. It is estimated that a significant proportion of retirees could qualify for an enhanced rate, yet many fail to explore this option. |
| Fixed term annuity | Provides a guaranteed income for a set period, after which a maturity value is returned that can be used to purchase another product or enter drawdown. A useful option for those who want short-term certainty whilst retaining flexibility for the future. |
The Open Market Option
One of the most important things to understand about annuities is that you are not obliged to purchase one from your existing pension provider. You have the right to use what is known as the Open Market Option, which allows you to shop around and purchase your annuity from any provider in the market.
Annuity rates vary significantly between providers, and the difference between the best and worst rates available can be substantial over the course of a retirement. As an independent firm, we search the whole of the market to find the most competitive and suitable annuity for your individual circumstances – including checking whether you may qualify for an enhanced rate based on your health and lifestyle.
Key features to consider
When structuring an annuity, there are several important features and options to consider:
| Guarantee period | Ensures your annuity continues to pay out for a minimum number of years, regardless of whether you survive within that time. Remaining payments are made to your estate or a nominated beneficiary for up to 30 years. |
| Value protection | A feature that returns a lump sum to your estate on death, equal to the original purchase price less any income already received. Helps ensure your pension fund retains some residual value for your beneficiaries. |
| Payment frequency | Annuity income can typically be paid monthly, quarterly, or annually, and can be structured to be paid in advance or in arrears depending on your preference. |
Combining an annuity with other retirement income
An annuity does not have to be an all-or-nothing decision. Many people find that a blended approach works well – using part of their pension fund to secure a guaranteed income through an annuity to cover essential expenditure, whilst keeping the remainder invested in drawdown for greater flexibility and the potential for continued investment growth. Cash flow planning can help us model different combinations to find the right balance for your circumstances.
How annuity income is taxed
Annuity income is treated as earned income and is subject to income tax in the same way as a salary. The amount of tax you pay will depend on your total income in retirement and your personal tax allowances. Careful planning around how you structure your retirement income – including the timing and amount of any tax-free cash you take – can help manage your overall tax liability effectively.
What to expect from us
Purchasing an annuity is one of the most significant and irreversible financial decisions you will make. We take this responsibility seriously. We will take the time to fully understand your health, your financial circumstances, and your retirement goals before making any recommendation. We will explain all of the options available to you clearly, search the whole of the market on your behalf, and ensure you have everything you need to make a fully informed decision.
FAQs
What is an annuity and how does it work?
An annuity converts your pension pot into a guaranteed income for life (or a fixed term). You give an insurance company a lump sum and they pay you a regular income in return. Once set up, the income is secure regardless of how long you live, making it a low-risk option for those who value certainty.
When should I consider buying an annuity?
There is no single right time to buy an annuity, and the decision will depend on your personal circumstances, health, and financial goals. Some people purchase an annuity at the point of retirement to cover essential expenditure, whilst others wait until later in life when rates may be more favourable. It is also possible to phase your annuity purchase over time, or to combine an annuity with other retirement income sources such as drawdown.
How do you help me decide if an annuity is right for me?
We take the time to fully understand your financial circumstances, health, retirement goals, and attitude to risk before making any recommendation. We will explain all of the options available to you, model different scenarios using cash flow planning, and help you understand the long-term implications of each choice. Where an annuity is suitable, we will search the whole of the market to secure the best possible terms on your behalf.
Are annuity rates good at the moment?
Annuity rates have risen significantly since 2022 in line with higher interest rates, making them considerably more attractive than they were for much of the 2010s. Rates vary between providers, which is why shopping the open market through an IFA can make a meaningful difference to your income.
Are annuity rates good at the moment?
Annuity rates have risen significantly since 2022 in line with higher interest rates, making them considerably more attractive than they were for much of the 2010s. Rates vary between providers, which is why shopping the open market through an IFA can make a meaningful difference to your income.
Should I choose an annuity or drawdown?
This is one of the most important decisions you’ll make at retirement. Annuities offer certainty and simplicity; drawdown keeps your pension invested but involves more risk and ongoing management. Many people use a combination of both. The right answer depends on your health, other income, attitude to risk, and how you plan to spend your retirement.
Can I get a higher annuity income if I have health problems?
Yes – if you smoke, have a chronic condition, or certain lifestyle factors, you may qualify for an ‘enhanced’ or ‘impaired life’ annuity, which pays a higher income because your life expectancy is statistically lower. Disclosing your health accurately is essential, and many people are surprised by how much this increases their income.