How do I buy a pension annuity ?

An Annuity is a pension product that provides someone with a guaranteed income in retirement.

You can buy an annuity with all or some of your pension pot. Which will pay an income for life for a number of years (known as fixed term).

On initially buying you can draw up to 25% of the total pot value tax-free.

The rest of the funds will then be used to buy the annuity which is an insurance product. Any income you then receive will be classed as taxable income.

So what type of Annuity can you buy ?

The different types include:

• Lifetime
• Fixed-term Annuity
• Enhanced rates
• Investment linked
• Purchased life

However the best type of annuity could depend on numerous factors, such as other types of retirement income in place, medical conditions, life expentancy and your attitude to risk.

So let’s look at each type in greater detail ?

LIFETIME:

• It does what it’s say on the tin and pays a guaranteed income for life.
• You can be paid on level basis, so it’s stays at same rate for the term.
• Could be on increasing basis, so increases each year to protect against inflation.
• Is considered suitable for someone who is risk adverse and can just switch off. They don’t need to worry about choosing investments or worrying about pot going up and down in value.
• Can give you peace of mind against pot running out of money in future years.
• However once bought cannot be changed, is based on factors at time of purchase. Such as pot size and market conditions.
• Could buy an annuity to cover essentials cost in retirement such as bills, rent, food, travel costs.
• Could be on a single or joint basis to cover partner or spouse.

The amount of income you receive is based on certain factors, such as age, health  and lifestyle, market conditions, mortality rates at the time of purchase.

You don’t have to stay with your current provider you can shop around.

https://www.moneyhelper.org.uk/en/pensions-and-retirement/taking-your-pension/annuity-options-and-shopping-around

How much do an annuity pay ?

Based on simple calculation: (as of March 2024)

• 65 year old with pot of £ 100,000 – could take £ 25,000 tax-free upfront and then receive £ 5,300 per annum on level basis.
• 65 year old with pot of £ 200,000 – could take £ 50,000 upfront as tax-free cash and then receive annual income of £ 10,600 per annum.

If you buy extras such as joint basis or increasing these figures will be lower.

BE AWARE: Once a lifetime has been bought it cannot be changed.

If you have any medical conditions let your provider know and you may get an enhanced rate. Thereby receiving a higher rate of income as you may be considered a greater risk.

FIXED-TERM ANNUITY:

• The amount is agreed at time of purchase, so you can choose the stated amount of income.
• The better the income the less in the pot at time of maturity.
• The less income taken the greater the pot value at time of majority.
• You can choose the term period so it may be between 1 year and 40 years. Most people will choose either 5 or 10 years to cover short term needs.
• Amendments can sometimes be made during the term but check with your provider.
• If you did within the fixed term period, the maturity sum can be paid to potential beneficiaries.
• Once the term ends you can then buy another annuity, although rates could be better or worse. Dependent upon your level of health and market conditions. Or you could buy another product such as Flexible retirement income (FAD / drawdown)
• Some providers can let you covert and exit ahead of maturity. If so they can recalculate the majority paid at that time.

Again you can shop around and don’t have to stay with your current provider. So you can get the best deal, and you can add and select certain features to suit your own circumstances.

Shopping around: https://www.moneyhelper.org.uk/en/pensions-and-retirement/taking-your-pension/annuity-options-and-shopping-around

 ENHANCED RATES:

If you have been diagnosed with an illness or certain medical conditions. That could potentially reduce your life expectancy ?

A provider will normally award you a higher level of income as it will pay out for a shorter period of time. This is known as “impaired life” or “enhanced rate”

The following health conditions caudal aware you a higher level of income !

• Smoking or recent smoker
• Cancer
• Diabetes
• Heart Condition
• High Cholesterol
• High Blood pressure
• Multiple Sclerosis
• Kidney condition
• Chronic Asthma or COPD

Some providers may also offer higher payments if you work in a certain profession. Such as manual or physical roles.

You may even be awarded higher income, if you live in a certain postcode which may have lower life expectancies.

You will normally be required to provide medical proof such as doctor’s reports to confirm certain conditions. In extreme cases you may be asked to attend a medical examination.

The rates they will offer you depends on estimation of future life expectancy. Based on the medical information provided.

INVESTMENT-LINKED:

• This is where only part of your income in guaranteed and part is linked to so-called investment performance.
• You can choose the guaranteed income that you wish, and part of the annuity is used to provide this income.
• The balance of the fund is then invested and any additional income is solely linked to the returns of the investments.
• You may get a better return when investments are performing well. But if investments fall you may only get the minimum amount guaranteed.

PURCHASED LIFE:

• You can buy this type of annuity with money not currently in your pension pot.
• Can buy one with the tax-free lump sum, originally taken when initially accessing a pension.
• You have the same options, but will be treated differently for tax specifics.
• Each income payment includes a return of the initial sum invested plus the part that is considered as interest.
• You then don’t pay income tax on the capital sum, but only the interest element.
• Can be written as capital protection basis. Which means they pay out at least as much income before tax as the amount used to buy an annuity.

Will buying an annuity affect certain benefits ?

Taking money from your pension may affect your current eligibility for any existing or future means tested benefits.

Types of Income-related benefits:

There are rules about how your pension, and any money you take from it, will be treated in the calculation of your entitlement to the following income-related benefits:

• Employment and Support Allowance (income-related)
• Housing Benefit
• Income Support
• Jobseeker’s Allowance (income-based)
• Pension Credit
• Universal Credit

How your pension pot (or your partner’s pension pot) is treated depends on whether you or your partner have reached the qualifying age for Pension Credit.

Means tested benefits are not normally payable to anyone with capital over £ 16,000. Whereby somebody has income over £ 6,000, benefits are reduced by £ 1 a week for every £ 250 of capital.

Greater information can be found on clicking on GOV.uk.

linkhttps://www.gov.uk/government/publications/pension-freedoms-and-dwp-benefits/pension-freedoms-and-dwp-benefits

If I purchase an annuity, can I still contribute into a Defined Contribution pension scheme ?

It depends what type you buy.

• It you buy a lifetime annuity you can still make contributions up to your annual allowance, currently £ 60,000 or lower amount if your salary is lower.
• If you buy some kind of flexible annuity or fixed term period, you will trigger the MPAA (Money Purchase Annual Allowance so contributions are restricted to £ 10,000 per annum each tax year (as per 2023/2024 tea year)
• The MPAA will be triggered immediately before the first payment is made from the annuity.

If you found the above information useful, or wish to look at further blogs posts about pensions, check them out on www.moneyminted.co.uk