What is an Annuity?
An Annuity (also known as a Lifetime Annuity) converts your pension fund into a pension income which will be paid to you for the rest of your life.
When you are approaching retirement, your pension provider will write to you with details about your pension fund, and how you can use your pension fund to buy an annuity.
What is the Open Market Option?
In the past annuities were purchased from the pension provider, but more recently it has become possible to shop around and approach other annuity providers to get the best deal, known as the Open Market Option.
Who can buy an Annuity?
You can buy an annuity if you have one of the following pension types
- Personal Pension
- Stakeholder Pension
- Most Additional Voluntary Contribution (AVC) schemes
- Free-Standing Additional Voluntary Contribution (FSAVC) scheme
- Retirement Annuity Contract (RAC)
- Section 32 Policy (buy-out bond)
- Occupational money purchase scheme
If you have contracted out of the additional State Pension, you must use that part of your pension fund to buy a protected rights annuity. You have the same options as with your other pension funds except that you must buy a joint-life annuity paying a 50% spouse’s pension if you are married or have a civil partner.
When can I purchase an Annuity?
You can start to take pension benefits from age 50 (going up to age 55 in 2010), and you don’t have to stop working to do this. However, with people living longer, some people are choosing to delay taking a pension income and continue working instead, thereby ensuring a larger pension income later in life. When to take an annuity is a decision based on a number of factors, primarily concerning your financial well-being for the remaining part of your life.
If you have a with-profits pension fund where you have stated an expected retirement age such as 60 or 65, you will usually only be allowed to take retirement benefits at set dates in the life of the policy, such as your selected retirement date. Some insurance companies may reduce your fund at retirement by making a market value reduction or other charge if you don’t buy an annuity on this date.
How is my Pension Income calculated?
The amount of pension income you get depends on a number of factors, such as:
- The amount of money left in your fund if you choose to take a tax-free lump-sum
- The annuity rate offered by the insurance company
- The type of annuity you decide to buy
- Your age (you typically get a lower income the younger you are as the annuity will have to fund more years)
- Your health and lifestyle (you may get a higher income if you are a smoker, have high cholesterol or are in poor health. Where you live or your occupation can also make a difference)
What are the different options available with an Annuity?
There are a number of different annuity options available to suit a range of circumstances. The main ones are:
- Single Life: this covers just you because you don’t have a spouse or partner, or because your partner has made their own arrangements
- Joint Life: this will pay out to you and then to your spouse or partner after your death (normally at a reduced rate).
- Level Income: this pays out the same amount of pension income throughout your life, but does not increase in line with inflation
- Increasing or Escalating Income: this pays out an increasing amount of pension income during you life, either at a fixed rate (for example 3% or 5%) or a rate which is linked to inflation, known as RPI (Retail Prices Index). Although the index-linked annuity pays out less than a level annuity initially, over time it will exceed the level annuity.
- Guaranteed Period: You can guarantee your annuity for a specific number of years (usually 5 or 10) so it continues to pay the income for that time even if you die before then. The income is then usually paid to your spouse, partner or other dependent.
- Value Protection (Lump-sum Death benefit): This ensures that if you die before the age of 75, your pension income does not stop. A lump sum equivalent to the pension fund you used to buy the annuity, minus the income you’ve already paid, will be paid to your estate or beneficiaries. There will be an income tax charge, and there may be an inheritance tax charge.
Where can I buy an annuity?
Historically, annuities have been purchased from the same company that manages the pension fund. However, since the FSA introduced its Open Market Option initiative, it has been possible to buy an annuity from any pension provider, giving individuals the opportunity to shop around and get the best deal.
How long does it take to arrange an annuity?
The average time taken to buy an annuity is 4 to 6 weeks, but it can take longer or shorter than this. A lot depends on the company which manages the pension fund.
What happens to the annuity when I die?
Typically an annuity will stop paying an income if you die, but when purchasing an annuity there are ways of ensuring annuity income can pass to your spouse or partner, or estate, though this will adversely affect your basic annuity rate.
- Guarantee Period – You can select a guarantee period of up to 10 years, which means that if you die within the chosen period the income will continue to be paid until that time expires
- Joint Life Option – You can select a certain proportion of your annuity to be paid to your spouse or other dependent upon your death
- Value Protection – If you die before the age of 75 and the total gross income paid does not exceed the amount of the fund used to purchase the annuity, the balance will be paid to your estate. However, these funds repaid to your estate are subject to a 35% tax charge
Is my annuity rate guaranteed?
The initial annuity quotation provided is normally guaranteed for 14 days. Rates may change if the pension funds are not transferred to the annuity provider in time. It’s therefore important, once you have decided on your course of action, to return all relevant paperwork as soon as possible.
What is Trivial Commutation?
Before 27th March 2014, if you have a total pension pot worth £18,000 or less and have two individual small pension pots each worth less than £2,000, you have been able to withdraw each of your pension pots as a lump sum.
From 27th March 2014, if you have a total pension pot worth £30,000 or less or have up to 3 small pension pots worth £10,000 or less you may be able to take your whole pension fund as a lump sum.
What are your fees?
The quote is free and there is no obligation to purchase an annuity. If you decide to proceed, we receive a commission payment direct from the annuity provider with which you purchase your annuity.
What happens if the company providing the annuity goes bust?
The Financial Services Compensation Scheme (FSCS) is the scheme of last resort and is an integral part of the financial services regulatory framework. It would provide a level of cover equal to 100% of the first £2,000 of annuity income and 90% of the amount over and above £2,000.
What affects the annuity rate?
In simple terms, annuity rates are based on projected life expectancy. The factors that will affect the annuity rate that you are offered, include:
- Size of Pension Fund
- Age on Application
- Single or Joint Life
- Level or Index-Linked Income
- Including a Guaranteed Period
- Current Lifestyle (smokers or being excessively overweight)
- Severe Existing Medical Condition
Can I trust you with my money?
We do not handle client funds.
Will my details be treated confidentially?
Retirement Professionals complies with all current legislation relating to Data Protection and actively subscribes to the principles of “Treating Customers Fairly” as laid down by the Financial Conduct Authority which authorises and regulates our business.
We have an exclusive arrangement with annuity-specialists to provide the quotation service and handle your enquiry. They comply with the same standards and authorities as we do in terms of confidentiality and regulation.
How long does a transfer take to complete?
It normally takes 3 to 6 weeks and tax free cash is often paid sooner.
What about tax?
Your pension will be treated as Pay As You Earn (PAYE) income and may be taxable. HM Revenue & Customs tell the annuity provider how much tax to deduct from your pension. This will depend on your individual circumstances.
If payments continue after you die they may be subject to Inheritance Tax. You need to speak to a financial adviser for further details.
Law and tax rules may change in the future.