Don't rush decisions
“You don’t have to take the annuity your pension provider offers you. Check you can’t get more money through an open market option from another provider,” says Philip Brown, head of retirement products at specialist providers Partnership. “Rates vary and you could get anything from 30% to 100% or more in increased income by shopping around.”
As well as finding an annuity provider that pays a higher rate, one of the biggest influences on the rate you get is your health. This won’t be taken into account when your pension company offers you an annuity but everything from your smoking, drinking and eating habits through to medical conditions such as diabetes, high blood pressure and cancer can bump up your income.
Partnership estimates that around 40% of people taking out an annuity could get an enhanced rate as a result of a health or lifestyle condition, with a further 10% benefitting from a higher rate on a joint life annuity because of their spouse or partner’s health condition. “People hold back on this sort of information. Up until this point they’ll have played down their health and lifestyle conditions when they spoke to insurers but the more you disclose, potentially the better,” Brown adds.
It’s not only your health and lifestyle that can affect the income you’ll receive from your annuity. Your job, especially if it involved working with hazardous substances such as chemicals or asbestos, and even your postcode in some cases could make a financial difference.
Single or joint policies
Another important consideration is whether to opt for a single or joint life annuity. While a single life annuity will give you a higher income, if you die before your spouse or partner, this income will die with you. As an example, according to figures from Annuity Direct at the end of May 2010, Mr A, a 60-year-old man with £100,000 could get a single life annuity of £6,286.68 a year. Add in his 60-year-old wife and his annual income would drop to £5,814.72 a year, but she would receive 50% of his income if she outlived him.
“Most people go for single life annuities but do think about your partner’s pension arrangements before doing this,” says Brown. “You wouldn’t want them to be badly off without your annuity.”
Escalation is another important consideration. By opting for escalation, which could be in line with inflation or a set percentage, your income will increase. This will help you maintain the same spending power in retirement. It does cost though. For instance, while Mr A’s level annuity would get him £6,286.68 a year, an escalating one would only get him £3,136.56.
You might also want to delay taking your annuity. Rates increase with age and if gilt rates improve you could get an additional boost. For instance, based on the same circumstances as Mr A, a 61-year-old male would get £6,424.56 – an additional £137.88 a year.
Using an IFA to help you find the best rate is a good idea. They’ll understand which factors might increase your annuity and some providers, especially the more specialist ones that take into account factors such as your health, will only deal with advisers. “It’s definitely worth getting advice. It’s one of the biggest financial decisions you’ll ever make and it will affect your standard of living throughout retirement,” says Brown.
Comparison sites can also help. The Consumer Financial Education Body’s Moneymadeclear website moneymadeclear.org.uk has comparison tables and you can also get quotes from specialist annuity advisers such as Annuity Direct and Alexander Forbes Annuity Bureau. “Rates are only guaranteed for between 14 and 25 days so use these searches as indications of what you’ll get,” adds Brown.
Open market option
People who have a money purchase or defined contribution pension, at retirement must use their fund (minus an optional 25% as tax-free cash) to purchase an annuity. As the annuity market is very competitive and rates differ vastly between annuity providers on a daily basis, the open market option is your right to shop around and buy the annuity from the company offering the highest rates at that time.
A financial adviser who is not tied to any financial services company (such as a bank or insurance company) and is authorised by the Financial Services Authority (FSA). They can advise on financial products to suit your circumstances. All IFAs have to give consumers the choice of paying by fees or commission and have to explain which would best suit the customer in that particular instance. Also, if commission is paid either by the client or the financial service provider recommended by the IFA, the IFA must disclose what that commission is.
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.