It’s one of the most important financial decisions you’ll make, so don’t be rushed into choosing annuity rates. You really should find the best retirement option for your own set of circumstances.
These really aren’t good times to be retired or to be about to retire. Savings rates are at historic lows with some close to 0% interest. People relying on their pensions for their retirement may have had nasty shocks as stockmarket falls resulting from the credit crunch and the recession we are witnessing have eaten into retirement savings. There seems to be little upside evident, and this is especially true for those who have actually reached retirement and are looking to exchange their pension fund for an annuity.
Annuity rates have plummeted lately, not least because of the Government’s programme of quantitative easing (QE). This process has led to a 50-year low in gilt yields. Insurance companies (annuity providers), which base their annuity rates on these gilts, have been cutting back. Figures from pension experts show that while in August last year, a male aged 65 with a pension pot of £100,000 could buy an annuity income of £7,901, today he could get only £7,067.
Accepting all this your retirement strategy must be to maximise annuity returns for your pension fund. Sadly, retirees generally spend little time choosing their pension annuity and those that get it wrong will pay dearly in terms of lost retirement income.
Annuities essentially work by exchanging pension fund money for a secure retirement income. An abundance of annuity types are around, but most experts warn against taking out a pension annuity with your pension provider. Instead, it is best to utilise the open market option and shop around for the best annuity quotes on offer from various providers.
The Financial Services Authority (FSA) states that doing this can increase your retirement income by as much as one-third. Despite this, it’s still a good idea to check the annuity rate offered by your provider and use this as a benchmark when doing your shopping around. The FSA website (www.fsa.org.uk) has useful annuity tables for comparing the various products available.
A conventional level annuity guarantees a fixed retirement income until you die. This security comes at a price, as any pension fund remaining will not be passed on to your estate upon death. Couples might decide to take out a joint life annuity. Although single life annuities do pay a higher level of income than joint life annuities, payments do stop when the planholder dies. A joint life annuity will continue to pay out an income for the remaining partner at a reduced rate which is set when the annuity is purchased.
Another annuity option that affords some protection is to add a guarantee period. This means that income payments will continue to be paid to your estate for a set period of time, even if you should die within that period. Without these add-ons, all income payments will stop upon death and the insurance company keeps the pension fund and reaps the benefits.
You can also choose to arrange your annuity so that you receive an amount that grows year on year. These escalating annuities can be arranged to increase by a fixed amount of, say, 3% per year, or by the Retail Prices Index (RPI). However, inflation-linked annuities tend to be much more expensive and start off paying a lower annuity income, typically between 30-40% less. Although RPI levels are currently negative, escalating annuities are a very useful way to combat the general trend of a rising cost of living, which can quickly erode your spending power in retirement.
An enhanced annuity or impaired life annuity are other ways to maximise retirement returns. These annuities pay a higher rate for those with medical conditions which could reduce life expectancy. For more serious medical conditions, the latter impaired life annuity might pay a considerably higher income for those individuals with a low life expectancy. Some providers, for example L&G and Norwich Union (soon to be Aviva), even offer enhanced annuity rates for inhabitants of cities and areas with lower-than-average life expectancy.
Income levels that can be taken from a with-profits annuity are linked to the ongoing performance of the insurance company’s with-profits fund. If you opt for a with-profits annuity you must set an anticipated bonus rate (ABR). This is then used to set the annuity income level. For example, Prudential recently launched their new Income Choice Annuity which allows retirees to select the income they wish to receive and then have the option of changing that income level every two years. The income is based on Prudential’s with-profits fund and so will either go up or down depending on performance. As with all with-profits annuities available on the market, if the fund suffers, payments will shrink.
Those who are willing to take chances can opt for a unit-linked annuity. These potentially offer better income returns in the long run, but management charges can be hefty and the annuity income paid is based on the moves of the stock market. A more drastic way to maximise annuity returns is to put off purchasing one until annuity rates have improved, and, of course, the older you are, the better annuity rates should be.
You could opt for short term annuities, as offered by the Canada Life AGA account. With this sort of arangement you buy a series of annuities for, say, five years, over a period of time. However, you could find even less attractive rates available when it comes time to switch.
