Five steps to getting the most from your pension savings
Bob Bullivant, chief executive of broker Annuity Direct, recommends the following:
1. Check the small print on your pension
You may already have a guaranteed annuity rate that will be difficult to beat elsewhere. In some cases, you may be able to take more than the usual 25% tax-free lump sum. Or there may be punitive exit penalties if you cash in your pension right now.
2. Decide if you want a single or joint annuity
The latter will pay out to your partner after you die, but it means you will initially receive less income. But can your spouse afford to live without your pension?
3. Do you want your annuity income to increase every year with inflation?
Again, this will mean receiving less income initially than a standard "level" annuity, but will protect your buying power in future. With inflation currently at 2.6%, consider how much your annuity income may be worth in 20 years' time.
There are hundreds of health and lifestyle issues that can affect your retirement income. Any medical condition should be declared to your insurer to see if you qualify for an enhanced annuity.
5. Finally, shop around for the best possible rate
An independent annuity broker can help with this and all the steps above. They will scour the entire market and find you an income that is on average 20% higher than the one offered by your pension provider.
Tax-free lump sum
An inelegant phrase that is nonetheless accurate in what it describes: a one-off payment to a beneficiary that is free of any form of taxation. Usually received when using a pension fund to purchase an annuity, as 25% of the overall fund can be taken as a tax-free lump sum.
An increase in the general level of prices that persists over a period of time. The inflation rate is a measure of the average change over a period, usually 12 months. If inflation is up 4%, this means the price of products and services is 4% higher than a year earlier, requiring we spend and extra 4% to buy the same things we bought 12 months ago and that any savings and investments must generate 4% (after any taxes) to keep pace with inflation. Since 2003, the Bank of England has used the consumer prices index (CPI) as its official measure of inflation (see also retail prices index).
In exchange for any lump sum – usually your pension fund – an annuity is “bought” from an insurance company and provides an income for life. When you die, the income stops. Annuity rates fluctuate daily and depend on your sex (although from 21 December 2012 insurers will no longer be able to use gender as a factor when calculating annuities), age, health and a number of other factors, so you have to pick the right one and, once bought, its terms cannot be altered, so seek financial advice.