Pension Annuity Guide

An annuity provides you with an income for the rest of your life in most cases. If you are fortunate enough to have saved enough into a pension with which to top up your State Pension entitlements, deciding how to fund your retirement is one of the most important financial decisions of your life. One of the most popular options is to use your pension fund to buy an annuity.Alternatively, you could start an income drawdown plan that allows you to keep your fund invested and draw an income from it as you need it.

What is an annuity?

An annuity is a contract with an insurance company that provides a retirement income – in the form of regular payments – for the rest of your life, though you can choose one that only pays out for a set period of time.


Members of defined contribution pensions, such as company money purchase schemes, personal pensions and stakeholder pensions, can use their accumulated fund to purchase an annuity once they are 55 (increasing to 57 in 2028). A defined contribution pension is one where you (and your employer in the case of company pension schemes) have saved into a pension fund where your money is invested during your working life. Choosing the right annuity can have a big impact on your retirement income.

Where can I buy an annuity?

Most people take out an annuity with their pension plan providers without bothering to shop around. However, taking advantage of the Open Market Option (OMO) could provide you with a much better retirement income, so it is definitely worth spending some time searching for the best annuity. You should not underestimate the importance of shopping around to find the very best annuity rate for you. The rates that you will be offered by different providers can vary dramatically and once you have made your choice, you will not be able to change your mind.

How do I choose an annuity?

A lifetime annuity involves you handing over all or part of your pension fund to an insurance company that agrees to pay you an income – either monthly, quarterly, half-yearly or annually – for the remainder of your life. You can choose whether the income stays the same throughout, or has automatic annual increases built-in. These increases may be at a fixed rate; for example, 3% per year or the rate of increase may vary according to the rate of inflation. However, the amount you receive in the early years will be lower if you do choose this option.

There are also other decisions to make such as whether you want all or part of the annuity to revert to your spouse or civil partner in the event of your death, or whether you would prefer a plan that guarantees payment for a certain time, for example, ten years, even if you die within that time.

How are annuity rates calculated?

The value of an annuity is dependent on two factors – the size of your pension pot and the annuity rate offered by the insurance company providing the annuity. In other words, the value of your pension divided by the annuity rate will give you the amount you receive on an annual basis. The annuity rate you get is, therefore crucially important and will affect the income you receive for the rest of your life.

It is worth knowing that annuity rates are calculated using various factors including interest rates, life expectancy, age and gender. The older you are when you take out an annuity, the more you are likely to get as a result this is because your future life expectancy is less.

Are there ways to increase annuity rates?

If you are suffering from certain medical conditions, such as high blood pressure or diabetes, you may qualify for an impaired life annuity. An impaired life annuity pays out a higher income on the basis that you have a reduced life expectancy. And if you are overweight or a regular smoker, you could opt for an enhanced annuity that pays a higher income in a similar way.

With both types of annuity, the payments you receive can be substantially higher than a standard annuity –making it well worth looking into. However, you will have to provide a doctor’s report if you want to take this route.

What are the other options?

Income drawdown allows you to take an income from your pension fund while the fund remains invested and continues to benefit from any fund growth though it can also suffer if markets fall. It would be best if you generally had a substantial fund value, say at least £100,000, for this to be an option. The risks involved also make it crucial to discuss this with an independent financial adviser before taking the plunge.

If you have a small pension which does not exceed £10,000, or several small pensions, worth no more than £30,000 in total and you are aged between 55and 75, you can also convert them into cash – 25% of which is tax-free – using a process called trivial commutation or taking a ‘trivial lump sum’.

Arrow up

Contact us

You can also request contact details from the Pension Tracing Service by phone or by post.

The Pension Tracing Service
Telephone: 0800 1223 170
From outside the UK: +44 (0) 1782 389134
Monday to Friday, 9:00 am to 5:30 pm

Address
The Pension Tracing Service
400 Pavilion Road
Northampton
NN4 7PA

Copyright 2020 by Pension Tracing Service ® ​

The Pension Tracing Service ® is a trading style of the Better Retirement Group Ltd. We are authorised and regulated by the Financial Conduct Authority. FCA number 153420. Our registered office is 400 Pavilion Road Northampton NN4 7PA ​

This service is not affiliated with the Department of Work and Pensions or any government body. The Pension Tracing Service does not offer financial advice to our clients. However we can allocate you an Authorised and Regulated Pension Specialist.

See how we handle your data.