Investment-linked annuities "potentially offer the best of both worlds" to retirees looking to maximise income, according to research by MGM Advantage.
The flexible income they offer can initially match or exceed a conventional annuity – which pays the highest starting income of any annuity – and gives the annuitant the potential to protect their income from inflation through returns generated from equities, the firm said.
MGM looked at the returns four different types of annuity product deliver over the long-term. When compared to a conventional annuity, an inflation-linked annuity and an annuity increasing at 3% a year (based on a £100,000 pension pot invested over 22 years), it found that an investment-linked annuity paid the highest starting income at £5,740.
It also paid the highest annual income in year 22 at £7,895 and the highest total income over the 22 years at £145,655.
The next best-performing annuity over 22 years was the conventional annuity, paying income of £126,346, followed by the escalating annuity at 3%, which paid £119,979 over 22 years.
The worst performer was the inflation-linked annuity, paying total income over the 22 years of £101,718.
Explaining its finding, MGM Advantage said that while conventional annuities pay a higher starting income than inflation-linked annuities, over time inflation can erode 50% of purchasing power.
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It added that although inflation-linked or escalation options protect purchasing power from inflation, they offer a much lower starting income than conventional annuities. It also pointed out that the total income over time is also less than conventional annuities, typically between 5% and 24%.
Andrew Tully, pensions technical director, MGM Advantage, said: "With the forecast for inflation to remain above 2%, and possibly above 3% in the short term, people retiring today who need to generate an income should be considering all of their available options. For example, you could secure a base income using a conventional annuity and then invest the balance of your pension in an investment-linked annuity, which provides a hedge against inflation.
"Of course, you need to be comfortable with the level of risk, which is why it pays to do your homework and seek independent financial advice."
Meanwhile, a new non-advised online annuity comparison site called retirementassured.co.uk has launched, enabling those coming up to retirement with pension pots of up to £250,000 to compare annuities from leading providers. A helpline providing quotes and support is also available on 0808 100 1055.
Annuities compared by MGM Advantage
|£100,000 pension pot||Starting Income||Annual income in year 22||Total income over 22 years|
|Escalating annuity @ 3%||£3,929||£7,309||£119,979|