Pensions & Annuities - Annuities

A member of a money purchase arrangement (i.e. an occupational money purchase scheme, a personal pension plan or a stakeholder pension scheme) builds up a 'pot of money'. On retirement, the member can usually take up to 25% as a tax free sum and has to use all or part of the residue pot to buy an annuity or ‘Draw Down’ if under 75.

An annuity is a contract between an insurance company and a pension scheme member under which the member hands over all or part of their pension fund to the insurance company which agrees to pay out an income to the scheme member for the remainder of that person's life. The annuity would normally be paid monthly, quarterly, half-yearly or annually. The amount of the annuity may stay the same throughout the years of payment or may have automatic annual increases built in. These increases may be at a fixed rate, e.g. 3% per year, or the rate of increase may vary, e.g. with the annual change in the Retail Price Index.

The annuity can be set up so that all or part of it reverts to your spouse or partner in the event of your death. Also they can be set up so that they are payable for a minimum period, say 5 or 10 years, even if you die before that period ends in thi scase the annual annuity paid will be slightly smaller compared to one without such a guarantee.

The value of the annuity is dependent on two factors – the size of the pot and the annuity rate offered by the insurance company selling the annuity. The annuity rate is basically the factor used to convert the accumulated fund into pension. For example:

Value of fund x Annuity rate = Annuity

Annuity rates are calculated by actuaries using various factors – mortality, interest rates, age, gender and sometimes health. In general terms, annuity rates are higher the older a person is because future life expectancy is less. In the same way men get higher annuity rates than women of the same age due to men having lower-life expectancy.

In addition, enhanced annuities are available to those who have a shortened life expectancy due to poor health. These are known as impaired life annuities.

Deferred Annuities - Many people now find that the pension they earned under an occupational pension scheme has been bought out with an insurance company under a contract of insurance known as a Deferred Annuity. If the insurance company were to go bankrupt, compensation will be paid by the Financial Services Compensation Scheme (FSCS). Our understanding is that this will be on the same basis which applies to long term insurance (i.e. 100% of the first £2,000, plus 90% of the remainder).

If you have combined ‘pension pots’ of £50,000 + and wish to be provided with a ‘whole of market’ quote of current annuity rates or wish to explore ‘Draw-Down’ please let us know your requirements