How to choose an annuity

If you want your pension fund to pay you a regular income when you retire then an annuity could be for you. Here is how each type of annuity works and what options you have.

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Pensions are long term investments. You may get back less than you originally paid in because your capital is not guaranteed and charges may apply.

Why buy an annuity?

An annuity turns your pension fund into a regular income during your retirement, but if you get a poor annuity rate you could be stuck with a low income.

Make sure you compare annuities to get the best rate and do not accept the first annuity rate you find, even if it is from your existing pension company.

What income could you get?

Here are the common income options annuity companies offer you when you buy an annuity:

  • Level income: This gives you a set income for life and will not change over time.

  • Escalating income: This increases your annuity income each year by a set percentage you choose.

  • Inflation proof income: This gives you an income that increases in line with the rate of inflation each year.

How often do you want to receive an income?

You usually have four options when you buy your annuity:

  • Monthly

  • Quarterly

  • Half yearly

  • Yearly

You can start taking your income from the date you buy your annuity, the next payment date after opening your annuity or at a date of your choosing.

What can affect the income you get?

  • Your health: You could get a higher rate if your life expectancy is shorter than average due to being overweight, a smoker or if you have worked in hazardous conditions.

  • If you have a short life expectancy: You get a higher rate if you suffer or have suffered from a medical condition that shortens your life expectancy.

  • Where you live: Your location determines the rate you get, as some companies believe where you live has an impact on your life expectancy.

  • If you choose a fixed term annuity: The shorter the term you choose, the better the rate. It pays out until the end of the term and you can withdraw what is left.

  • If you choose an investment linked annuity: This gives you an investment based income that changes based on stock market performance, and a guaranteed income.

How do joint annuities work?

You and your partner could combine your pension funds to create a joint annuity income. This means:

  • You get one payment each month, which can help you manage your bills

  • You still get your annuity payments if your spouse dies first

If you buy a joint annuity with your partner, it pays out until you have both died. This usually means rates are lower because annuity companies have to pay out for longer.

When you buy a joint annuity you can choose how much of an income you continue to get after your partner dies.

You could choose up to 100% of the joint annuity amount after death. The higher the percentage you choose, the lower the joint income is for you both.

Before you buy a joint annuity, consider speaking to an independent financial adviser to discuss if this is the best option for you both.

When should you buy an annuity?

You can buy an annuity when you reach 55, but you could get a better rate as you get older.

This is because annuity companies base their rates on how close you are to your life expectancy age, so the closer you are the higher the rate.

Can you change your mind after buying an annuity?

Yes, this is known as selling your annuity. You only have 30 days to do this after buying your annuity otherwise you could face a tax charge between 55% and 70%.

What are the alternatives to annuities?

Buying an annuity is not your only option when you retire, but it does guarantee you an income for life.

When you retire you have a number of options, including:

  • Buying an annuity

  • Taking income drawdown

  • Withdrawing 25% of your pension fund tax free and reinvest the rest

Here is more information on your options when withdrawing from your pension.

You can help ensure you have the retirement you want by finding the best personal pension plan to make your money work as hard as it can.