August 2006

The Financial Services                               We produce a range of user-friendly
                    ...
The Financial Services Authority (FSA) is the UK’s financial watchdog
   set up by government to regulate financial services...
This booklet is an introductory guide that outlines the main ways of
    converting your pension fund into an income for y...
Important things to think about:              ■ You might be able to get a better
                                        ...
In fact, if you have an illness or medical
condition that means you don’t expect
                                         ...
Level and escalating                                Example of level annuity
                                             ...
The examples used below and elsewhere           The table below illustrates the difference
in this booklet are based on an...
If you have contracted out of the              Lifetime annuities with a guarantee                There will be a tax char...
How annuity rates vary – according to age,                                                                               Y...
An alternative to buying an annuity
                                                                                      ...
Retiring later and                                                                                 ■ Private pension now  ...
With-profits annuities                             ■ the option of a guaranteed rate –
                                    ...
Unit-linked annuities                         Some unit-linked annuities work in a
                                       ...
■ Get a quote from your pension                Seven steps to shopping around                     5. Does your fund need t...
However, the Government has                       single-life annuity for person of your age
                             ...
FSA Guide To Annuities And Retirement Options
FSA Guide To Annuities And Retirement Options
FSA Guide To Annuities And Retirement Options
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FSA Guide To Annuities And Retirement Options

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FSA Guide To Annuities And Retirement Options

  1. 1. August 2006 The Financial Services We produce a range of user-friendly factsheets and booklets which are Authority (FSA) is the available from our website and helpline. FSA guide to independent watchdog If, after reading this booklet, you have Financial Services set up by government any general queries, our helpline will try to clarify things for you. pensions 3 Authority to regulate financial We can tell you if a firm is authorised and services and protect help you if you have a complaint and don’t know who to contact. But as the regulator, Annuities and other your rights. we can’t recommend firms or advisers, or tell you whether a particular investment is right for you. retirement options If you would like this guide in Braille, large print or audio format, please call our Consumer Helpline on 0845 606 1234 or Minicom/Textphone on 08457 300 104 (call rates may vary). To help us maintain and improve our service, we may record or monitor calls. © The Financial Services Authority, August 2006. FSA ref: CRED0098cP. `Our website, www.fsa.gov.uk/consumer, aims to help you understand financial services and get a fair deal. Use the site to: ■ shop around with our Comparative Tables – including mortgages, pensions and ISAs; ■ check a firm is authorised by the FSA, or is the agent of an authorised firm. If they are not authorised you will not have access to complaints procedures and compensation schemes if things go wrong; ■ order any of our wide range of consumer publications; ■ report any misleading financial advertising; ■ see explanations of financial products in plain English; ■ read recent alerts we have issued. The Financial Services Authority – the UK’s financial watchdog
  2. 2. The Financial Services Authority (FSA) is the UK’s financial watchdog set up by government to regulate financial services and protect your rights. By law, most financial services firms in the UK must be Contents authorised by the FSA. We regulate the way many (but not all) of them do business with you. Introduction 3 What is a lifetime annuity? 5 The FSA’s consumer publications aim to give you general information Taking a lump sum from your 7 to help you make financial decisions. The information does not pension constitute financial or other professional advice: for advice about Basic lifetime annuities 8 your own circumstances, you should consult a professional adviser. – Level and escalating lifetime 9 annuities – Lifetime annuities if you have 11 If you would like this guide in Braille, large print or audio format, please a partner call our Consumer Helpline on 0845 606 1234 or Minicom/Textphone 08457 300 104 (call rates may vary). – How annuity rates vary according 14 to age, sex and type of annuity Retiring gradually 16 Retiring later and postponing your 18 annuity Investment-linked annuities 20 Where to buy annuities 23 Other retirement options 26 The FSA – here Where to get advice 28 to help you make more sense of Complaints 30 your money. Useful contacts 31 Shop around for the best annuity rates online at www.fsa.gov.uk/tables 1
  3. 3. This booklet is an introductory guide that outlines the main ways of converting your pension fund into an income for your retirement. It is general information designed to help you ‘ask the right questions’ Introduction and so make informed decisions. A guide to your retirement options if you are Changes to pensions retiring soon. In May 2006 the government published a White Paper that This booklet is for you if you have ■ the type of additional voluntary proposes significant changes to both State and private pensions. saved or are saving for your retirement contribution (AVC) scheme that Any changes arising from these new proposals are unlikely to be in a money purchase pension such as: builds up your own investment fund; made in the next few years. ■ a personal pension; ■ some Section 32 policies – if you Information in this booklet is based on the legal tax position at have used one to transfer out of April 2006. ■ a stakeholder pension scheme; your employer’s pension scheme. ■ a group personal pension plan This booklet deals with converting your arranged through your employer; money purchase pension fund or funds ■ a retirement annuity contract into an income in retirement. For most (similar to a personal pension but people, this means buying a lifetime sold before July 1988 when personal annuity. pensions first became available); It does not deal with employers’ ■ a free-standing additional voluntary occupational salary-related (defined contribution (FSAVC) scheme. benefit) pension schemes. In these schemes, your income in retirement is This booklet may also be relevant if provided by the employer’s pension you will be getting an income from: scheme and you do not need to buy ■ an employer’s occupational pension an annuity yourself. scheme that builds up your own retirement fund – called a money purchase or defined contribution scheme; 2 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 3
  4. 4. Important things to think about: ■ You might be able to get a better annuity rate for your money if you You will have many things to consider when you buy a lifetime annuity. It may help if you take financial advice. Here smoke or have health problems and qualify for an impaired life annuity. What is a lifetime annuity? are some things to think about: ■ You don’t have to buy a lifetime annuity at retirement. See page 26 ■ You can choose to take up to a for other options available to you. quarter of your pension fund as a A lifetime annuity is a special type of People who die early subsidise the tax-free lump sum. You can then use investment because it will pay you an annuity rates for those who live longer Retirement income for the rest of your life, but everyone benefits from the payment the remainder of the fund to provide you with an income by buying a In this guide, we use ‘retirement’ to however long you live. of an income throughout their lifetime annuity. This will pay you mean when you start to take benefits retirement – no matter how long or If you have more than one pension plan an income for life. from your pension. short that proves to be. Insurance or scheme, you don’t have to use them companies adjust rates because average ■ If you choose a basic lifetime You can take your pension from age 50 all at the same time to buy an annuity, life expectancy is rising and people are annuity, your choice will be between onwards from a personal or stakeholder though you might be able to get a living longer. Interest rates also affect a level annuity that will pay you the pension and you don’t have to stop better income by combining them. annuity rates because they determine same amount for the rest of your life, work. You can also do this with an the returns on the investments from or an escalating annuity that will pay employer’s occupational pension scheme How lifetime annuities work which insurers pay annuities. a lower initial amount but will and carry on working for that employer, In most cases buying an annuity means increase each year with inflation. but only if the scheme rules allow. that you are exchanging your pension Did you know? ■ You’ll need to consider whether you The minimum age from which you can fund for an income. should provide for your partner after take your pension is going up from Government estimates for the UK Lifetime annuities are sold by life your death. 50 to 55 by 2010. The precise timing show that life expectancy for people insurance companies. The annuity rates may vary between different pension aged 65 in 2005 will be: ■ You should shop around to get they offer people are calculated by schemes, so bear this in mind when the best deal for your money. You taking account of the fact that some ■ around 84 for men; and thinking about your retirement plans can compare annuity rates on the people will live longer than others. ■ around 87 for women. and check with your pension provider. FSA Comparative Tables at Obviously people who live longer than www.fsa.gov.uk/tables average will take more from their You could be living on your annuity than, for example, someone retirement income for many years. who dies three or four years after Source: Government Actuary’s Department – cohort figures 2005 retirement. 4 Shop around for Check annuity rates online at www.fsa.gov.uk/tables the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 5
  5. 5. In fact, if you have an illness or medical condition that means you don’t expect Usually the starting income from the same size of pension fund is higher for Taking a lump sum to live as long as a healthy person the insurance company might offer you a a man than for a woman of the same age. This is because, on average, the from your pension higher annuity rate than it would a life expectancy of a man is less than healthier person. Some companies offer that of a woman of the same age. higher annuity rates for smokers and The older you are when you buy an people with specified health problems Tax-free lump sum Increasing your income with a annuity, the higher will be the income or who have worked in certain purchased life annuity you get from it at the start. This is You can take up to a quarter of your industries. These are called ‘enhanced’ because, on average, an older person has pension fund in cash, as a tax-free lump It may be worth taking the maximum or ‘impaired life’ annuities. fewer years left to live than a younger sum. You have to use the remaining tax-free cash sum and using it to buy a person. So an older person’s pension fund to provide you with an income. purchased life annuity (though this is How lifetime annuities pay out fund does not have to last so long. not always the case so take advice). A The amount of income an annuity will Trivial commutation purchased life annuity is similar to the You can usually choose to have your pay depends on, amongst other things: lifetime annuities described in this income paid every month, every three If the total of all your pension funds is booklet. But a purchased life annuity ■ the amount you have in your months, every six months or once a year. less than £15,000, you can take all is taxed more favourably, so can pay pension fund; your pensions as a cash lump sum more after tax than a pension annuity rather than take an income. This is ■ the amount of tax-free lump sum for the same amount of money. called trivial commutation. To take this you take; option you must be between 60 and 75 ■ if you have used your fund to and must convert all your pension contract out of the additional funds to cash within a 12-month State Pension (see page 12); period. One quarter of the lump sum is tax-free and the rest is taxed as income. ■ your health; ■ your age; ■ your sex; ■ the benefits you choose, such as whether the annuity is for you or for you and your partner. 6 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables FSA Consumer website: www.fsa.gov.uk/consumer 7
  6. 6. Level and escalating Example of level annuity lifetime annuities Basic lifetime annuities A level lifetime annuity pays the same Harry retires at age 65 and reckons he has a good chance of living another income year after year for the rest of 20 years. After taking a tax-free lump your life. sum his remaining pension fund is £50,000. He chooses a single-life level Before you buy a lifetime annuity you Level annuities have a higher starting annuity. This pays him around £3,400 will have to decide what type you want. income than escalating annuities but a year (£282 a month or £70 a week). what you can buy with the income There are different types to suit your Start thinking If inflation averages 3% a year, the from a level annuity falls as prices rise. needs and circumstances. The basic about your annuity buying power of Harry’s pension types are: To protect your income from rising would fall dramatically as retirement choices at least four prices, you can choose an escalating progresses. After ten years, his £3,400 ■ single life – an annuity just for lifetime annuity that pays a lower initial you if you don’t have a spouse or months before you annual pension would buy only the annuity but then increases each year. same as £2,507 today. partner, or if they don’t rely on you retire. for income (for example, they have There are two main choices: Harry might be gaining in terms of the their own pension arrangement); ■ fixed-rate escalating annuities – your total amount he has received over 10 income is guaranteed to increase at years, but his income will only buy ■ joint life – an annuity that will pay a fixed rate each year, say, by 3%; around three-quarters of what it out to your spouse or partner after bought in year 1. After 20 years, its your death – see page 11. ■ RPI-linked annuities – your income buying power would have fallen to You can also choose whether you want is adjusted each year to reflect around £1,850 a year. your single or joint life annuity to be – changes in the Retail Prices Index (RPI). So, if inflation is 2% one year, If inflation is more than 3% a year, ■ a level annuity – see page 9; or your income goes up by 2%. If the buying power of Harry’s pension inflation is 3% next year, your will fall even further and faster. ■ an escalating annuity – see page 9. income goes up by 3%. However, You can also ‘guarantee’ whichever your income is not guaranteed to annuity you choose for a specific increase each year – if the RPI did number of years – see page 12. not rise, neither would your income. If the RPI fell, your income increase would be lower than previous years. 8 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 9
  7. 7. The examples used below and elsewhere The table below illustrates the difference in this booklet are based on annuity between the rates for a level annuity, Lifetime annuities if you have a partner rates in April 2006, as shown on the and the starting rates for an annuity Joint-life annuities With some occupational money purchase FSA Comparative Tables, and are for increasing each year by 3% and an pension schemes, you must opt for an illustration only. annuity linked to the RPI. Basic annuities can be single life or joint annuity that provides a pension for your life. Unless there is a guarantee, see page With an escalating annuity, the starting widow, widower or civil partner equal to 12, a single-life annuity will only pay Annuity rates are changing all the income is a lot lower than you would half the income you were getting. Your out during your own lifetime. Your time. In general, the annuity rate at get from a level annuity. It would take provider can tell you if this applies to partner will get nothing when you die. the time you buy your annuity sets around 11 years for the 3% escalating your plan or scheme. A joint-life annuity continues to pay an your income throughout retirement. annuity to catch up with the level income to your partner after your death. Joint-life annuities are more expensive Later changes in annuity rates do not annuity. It would take 20 years before than single-life annuities because the affect your annuity income. the total you received from the 3% You can usually choose between a insurance company will expect to escalating annuity exceeded the total joint-life annuity that pays your partner continue paying the annuity for longer. paid by the level annuity. the same as you were receiving, or two The table below shows the difference thirds or a half of what you were between single-life and joint-life receiving. You can also choose a joint annuities. life annuity that is level or escalating. If you are not married, check with your provider that your partner will be eligible to receive the income from a joint-life annuity. Man aged 65 with a pension fund of £50,000 buying a single life annuity Man aged 65, wife aged 62 with a pension fund of £50,000 buying a level annuity Level Escalating 3% Escalating RPI £ per month £ per month Level annuity £ per month Best rate 290 212 196 Single Joint 50% Joint 100% Worst rate 259 180 179 £ per month £ per month £ per month Best rate 290 260 236 Taken from the FSA’s Comparative Tables on 6 April, 2006 Worst rate 259 227 192 Taken from the FSA’s Comparative Tables on 6 April, 2006 10 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 11
  8. 8. If you have contracted out of the Lifetime annuities with a guarantee There will be a tax charge, and may These are called ‘impaired life additional State pension period also be an inheritance tax charge. annuities’. Relevant health problems might include, for example, cancer, If you have contracted out of the If you die soon after you buy an Example of an annuity chronic asthma, diabetes, heart attack, additional State pension, known as the annuity, it will not have paid out much. high blood pressure, kidney failure, State Second Pension (previously called To guard against this, you can choose with a guarantee period multiple sclerosis or stroke. SERPS), and put your rebates into a an annuity with a guarantee period. personal pension fund, you must use Harriet, 60, retires. After taking a tax- You might be able to get an ‘enhanced Guarantee periods are usually for five free lump sum she uses the remaining that part of your pension fund to buy a annuity’ if you are overweight or smoke or ten years’ worth of income, even if £30,000 pension fund to buy an ‘protected rights annuity’. Your pension regularly. Some companies offer higher you die within this period. On your annuity. She hopes to live to a ripe provider will tell you if protected rights rates to people who have followed death, the income may continue to old age but, if not and having no applies to you and what it means in certain occupations and to individuals be paid for the rest of the guarantee closer relatives, she would like to your circumstances. living in certain parts of the country – period, or it may be paid to your leave something to her nephew. shop around and compare the income With a protected rights pension you: estate (and tax might be due on it). She chooses a single-life level annuity you can get from different providers. ■ can take your protected rights If anyone is financially dependent on you, with a ten-year guarantee. pension at the same time as your do not look on a guarantee period as a More than one pension fund? occupational or personal pension, substitute for a joint-life annuity. If you Harriet gets an income of £1,620 a year. Whatever happens the annuity If you are using more than one pension provided you are over 50 years old, choose a joint-life annuity, a guarantee guarantees to pay out for 10 years fund to buy an annuity, think about rising to 55 by 2010 (check that period may not be useful as you have at £1,620 a year = £16,200. combining them when you are shopping your pension scheme rules allow you already arranged for your annuity to around – you may get a better annuity to take your pension at age 50); continue to be paid on your death. After only two years, Harriet dies. The rate from a larger fund. Advantages of ■ can convert up to one quarter of annuity has paid out a total income combining your funds: Annuity protection lump sum death of £3,240. The rest of the guaranteed your protected rights fund into a benefit annuity payments continue to be paid ■ Many of the best-rate annuities have tax-free lump sum; to her estate and will be distributed a minimum fund size. Another way of ensuring that if you ■ will have to buy a joint-life annuity according to her will. die before the age of 75 your money ■ It’s often easier to budget with paying a 50% spouse’s pension if doesn’t die with you is an annuity just one payment a month. you are married or have a civil protection lump sum death benefit. A Impaired life and enhanced annuities partner; and Possible drawback: lump sum equivalent to the pension fund Some companies offer annuities that ■ can choose between taking a level you used to buy an annuity, minus the ■ You might not want to convert pay you a higher-than-normal income or escalating annuity. income you’ve already been paid, will all your pension funds at once. if you have a health problem that be paid to your estate or beneficiaries. threatens to reduce your lifespan. 12 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 13
  9. 9. How annuity rates vary – according to age, You may see an annuity rate expressed as a percentage, or as so many pounds Check annuity rates as you near retirement and shop around for sex and type of annuity of income for each £10,000 you have the best deal. invested in your pension fund. For example, an annuity rate of 6% is the These figures show annuity rates at one point in time. They are only an illustration same as £600 a year income for every to help give you an idea of what you might get. Annuity rates change frequently for £10,000 in your pension fund. several reasons. This chart gives an indication of the pre-tax monthly income from an annuity that could be bought in 2006 for a pension fund of £25,000. The figures in the joint life columns assume the person buying the annuity is a 65-year-old male who is five years older than his female partner. Joint lives Joint lives Single life (no reduction on (reducing by 50% on Notes to the chart opposite Types of death of scheme death of scheme annuities member) member) 1. Level (no guarantee period): The 4. RPI linked (no guarantee period): Male 60 Male 65 Female 60 Female 65 Male 65 Female 60 Male 65 Female 60 income provided is the same each year The income increases each year by the £/mth £/mth £/mth £/mth £/mth £/mth for the rest of your life. Retail Prices Index (RPI) but stops immediately on death. Level annuities 2. Level (guaranteed 5 years): The Level income is the same each year for the 5. Joint lives: On the death of the (no guarantee period) 122 139 114 126 106 119 rest of your life and is guaranteed to be scheme member, the income continues paid for at least 5 years, regardless of (at the level you select when you take Level (guaranteed 5 years) 121 138 113 125 106 118 when death occurs. out an annuity) to your spouse or partner for the rest of their life. 3. Escalating 3% each year (no Escalating guarantee period): The income 6. Better rates may be available for Increasing 3% increases each year by 3% but people with health problems, or who each year (no guarantee period) 82 98 73 87 68 80 stops immediately on death. have followed certain occupations. RPI linked 7. Source: FSA Comparative Tables (no guarantee period) 78 94 68 82 64 65 website. April 2006. www.fsa.gov.uk/tables 14 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 15
  10. 10. An alternative to buying an annuity would be to draw an income directly Retiring gradually from the fund. This is called ‘phased income withdrawal’, and carries more risks than buying a lifetime annuity because the whole fund remains invested and so the income it will provide is not guaranteed. See page 27 for information ‘Phased retirement’ uses annuities to provide about income withdrawal. a flexible income. Another way of retiring gradually is to buy a series of short-term annuities You must convert enough segments lasting for 5 years at a time – see Phased retirement is suitable only if each time to buy an annuity. Insurance page 26. you have a fairly large pension fund companies often set a minimum fund (after taking any lump sum), or have size for annuity purchases. other assets or income to live on. Phased retirement can be a useful financial planning tool, for example, You can arrange most personal if you want to ease back gradually pensions as a single plan, or as a cluster on work and start to replace your of many separate plans, sometimes earnings with pension income. called ‘segments’. You can use these segments to buy a lifetime annuity at It also provides more flexible help for different times. This process is called your survivors if you die. Segments that ‘phased retirement’. you have not yet converted to annuities can provide a pension for your surviving Phased Each time you convert a segment to dependants or a lump sum, depending an annuity, you can first take part of on the terms of the pension plan. retirement is the segment’s fund as tax-free cash. complicated and needs Converting segments regularly – for By taking an income in this way you are thought, planning and example, once a year – means you can reducing your overall pension funds and effectively use the tax-free cash, as well relying on investment growth to replace management. You’ll as the annuity, to provide your income. part or all of what you have taken. probably need some Alternatively, you can take all your specialist financial tax-free cash in one go and use the advice – see remainder of the fund to provide you with an income. page 28. 16 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 17
  11. 11. Retiring later and ■ Private pension now The best rate he finds is: postponing your annuity He has a pension fund of £60,000 and, after taking a tax-free lump sum of Single-life level annuity with a 5 year guarantee period at age 68 with £15,000 (25%), he is interested in a a fund of £52,125 = £349 a month. single-life, level annuity with a five- year guarantee. To summarise You don’t have to buy an annuity with your pension fund at retirement. You Example He checks the FSA’s Comparative If other factors stay the same, Ted Tables for annuities and finds that may consider postponing buying an Ted is 65 years old and has a pension could be £75 a month better off by if he buys an annuity now with the annuity until a later date. Alternatively fund of £60,000. He plans to work postponing his annuity for three remaining £45,000, the best rate is you may decide not to buy an annuity part-time for the next three years £274 a month. years. But he will have given up at all and draw an income directly from and will have a steady, but reduced income of £274 a month for three your pension fund instead – see page 26. income. He checks on his options ■ Private pension in three years, amounting to £9,864. for deferring his pensions. years’ time If you delay buying an annuity you might expect a higher annuity rate It will take him over 12 years at his ■ State Pension now (including If he postpones taking an annuity for because you’re older. But because three years, he reckons that his fund higher annuity rate before he gets Pension Credit) – £114 people are on average living longer, will grow over that period. As he intends back the income he gives up by annuity rates are periodically adjusted ■ State Pension (including Pension to move his fund to relatively lower-risk postponing buying an annuity for to reflect this. So it could be risky to Credit) in three years’ time: investments for the next three years, he three years. assume that annuity rates will be higher According to the Pensions Service estimates that, after charges, his fund On the other hand, he could: if you postpone buying your annuity. leaflet, if he puts off claiming his will grow by 5% a year. And of course rates may fall or rise for State Pension for three years, he ■ defer taking his State Pension for a number of reasons. Ted’s estimated pension fund in could, at current prices, get: three years’ time is £69,500, three years, which would give him You can also postpone taking your State assuming his pension fund grows by a lump sum; and ■ a lump sum of about £19,138 Pension, in exchange for a higher 5% a year after charges. He can take (before tax) plus his weekly ■ buy an annuity now with the whole pension or a taxable lump sum when pension; or a tax-free lump sum of £17,375, of his £60,000 private pension fund, you decide to take it. (See Useful leaving £52,125 to buy an annuity. ■ extra State Pension of about which would give him an annuity of contacts on page 31 for details of how to get a leaflet from the Pension Service.) £34.75 a week (£150.58 a Ted uses the FSA’s Comparative Tables to £366 a month (£92 a month more month) for life, when he starts check the annuity rate for his estimated than his original annuity). claiming it. fund at age 68 (he can only use today’s annuity rates as annuity rates in three years’ time are not available). 18 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 19
  12. 12. With-profits annuities ■ the option of a guaranteed rate – but the higher the guarantee, the Investment-linked annuities These link your income directly to the performance of the insurance company’s with-profits fund. lower your starting income; Remember, bonuses are not guaranteed, but will depend on the financial strength Typically, your income is made up of the guarantor. of two parts: If you take this route with your pension ■ an option of an ‘assumed (or The chance of a higher income in fund, you will be linking your income ■ a minimum starting income anticipated) bonus rate’ (ABR). You future – but only by taking extra risk. in retirement to the ups and downs of choose the ABR at the outset from a Investment annuities also have higher This is set at a low level, but, unless the stockmarket instead of receiving a range set by the insurance company – charges. investment conditions are very bad, pre-determined income – see page 9. for example 0% (which assumes no you’ll usually get at least this much bonuses at all) to 5%. Once chosen, Once your investment annuity is being income. Investment-linked annuities offer the most insurance companies do not paid you can only switch annuity chance of a higher income than you can ■ bonuses allow you to change the ABR. providers if you can find a provider get from basic annuities. With a basic willing to take it on, though the costs The insurance company usually The insurance company announces annuity the insurance company decides involved might make it impractical. announces bonus rates once a year. new bonus rates every year. If the rate where to invest your pension fund – Bonuses can be both ‘reversionary’ equals your chosen ABR, your income mostly in low-risk investments such as You cannot change the type of annuity (paid for the duration of your annuity) does not change. If the declared bonus fixed-interest assets, gilts (loans to the if you do switch providers. If the risk of and ‘special’ (paid for a year or so) is higher than the ABR, your income government) and bonds (loans to an unpredictable and possibly falling until the next bonus announcement. increases. But if the bonus is lower than companies). You receive a pre- retirement income worries you, stick to The amount of any bonuses depends the ABR, your income falls. determined income from the insurance basic annuities. on many factors, such as: company for the rest of your life. If you choose a low ABR, your starting You should get specialist financial ■ how well investments are doing – for income is low. But you increase the Investment-linked annuities offer you advice if you are considering an example stockmarket performance; likelihood that future bonuses will the opportunity to invest your pension investment annuity – see page 28. exceed the ABR and that your income fund in higher-risk investments, such as ■ business risk – the financial strength Investment-linked annuities can be either: will rise. You also reduce the risk that funds investing in stocks and shares. of the fund; and your income will fall. If you choose a ■ with profits; or Many experts believe that investment ■ the insurance company’s assessment higher ABR, your starting income will annuities are unsuitable for people with ■ unit-linked. of what it can afford to pay out in be higher, but you run the risk that pension funds below £100,000 – unless bonuses. your income could fall. they have other assets. Investment-linked annuities are higher With-profits annuities might offer: risk than basic annuities. ■ a minimum, guaranteed bonus rate – for example 3% a year; 20 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 21
  13. 13. Unit-linked annuities Some unit-linked annuities work in a similar way to with-profits annuities. Your income in retirement will be linked directly to the funds you have Your starting income is based on an assumed growth rate (this works like Where to buy annuities invested in. You can usually choose the assumed bonus rate – see page 21). the types of fund, for example: If the fund grows at that assumed rate, your income stays the same. If growth is ■ medium-risk managed fund where a fund manager selects a broad less than the assumed rate, your income falls. A few unit-linked annuities let you Insurance companies sell annuities – the rates range of different shares and other investments – spreading your money invest in a ‘protected fund’ which limits vary from company to company so shop around the fall in your income. widely reduces risk; for the best deal. Most unit-linked annuities do not ■ higher-risk fund where a fund guarantee a minimum income. Even if As with most things, shopping around the best annuity rate for you if you manager selects shares and other your income is based on an assumed can get you a better deal. Although you wish, or your scheme trustees can do investments in a particular country growth rate of 0%, your income could can usually buy an annuity from the this for you. or sector, such as smaller companies. still fall if the value of the underlying same company with which you built up Because your money is less widely Before shopping around, make sure you investments falls. your pension fund, do not assume it spread the risk is higher; understand what your existing provider will automatically offer you the best You should not consider a unit-linked is offering you. ■ tracker fund (usually medium rate. You may do better by shopping annuity unless you can cope with an risk) which closely follows the around and checking if another Check: income that may swing widely and may performance of a particular company could offer you more. fall. You would need a large pension ■ Does the company holding your stockmarket index. fund or other sources of income (or In most cases, you can use your pension pension fund offer you a ‘guaranteed Usually, these have lower charges both) to fall back on. fund to buy an annuity from another annuity rate’? This is not the same than managed funds. company. This is called using your as a guaranteed period. In the past, The more risky the underlying fund ‘open market option’. some insurance companies sold you choose, the more your retirement pensions with a ‘guaranteed annuity Your insurance company must tell you income may vary – both up and down. rate’. Now that annuity rates are a about this and explain the advantages lot lower, these guarantees can be and disadvantages. Make sure you ask very valuable. for all the information you need to shop around for the best deal. ■ Will your existing pension company impose a charge against your fund if If you are a member of an occupational you buy your annuity from another money purchase pension scheme, you company? can shop around on the open market and find the insurance company with 22 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 23
  14. 14. ■ Get a quote from your pension Seven steps to shopping around 5. Does your fund need to be a certain provider for the type of annuity for your annuity size to qualify for the better rates you want. offered by another company? You It’s usually a good idea to allow around may find it difficult to shop around six weeks before you want to buy your There can be a big difference between if you have a small pension fund annuity to get quotes. the best and the worst annuity rates. (say less than £10,000). Some firms 1. Get an estimate of the value of your may not be interested in advising on You could be better off in retirement by pension fund, taking account of any small sums. shopping around for the best annuity. charges, from your pension provider. 6. Are you a smoker? Some annuity 2. Decide how much tax-free lump sum providers offer higher rates for Shopping around for an annuity you want to take (usually up to a smokers. Some companies are keen to attract quarter of your fund) and deduct it 7. Do you have a medical condition that annuity customers, so they offer from the pension fund value your could reduce your life expectancy? competitive rates; others are less keen. pension provider gives you. Some providers of impaired life The rate you get can affect your income 3. Decide on whether you want: annuities are interested in pension by hundreds of pounds a year. When funds smaller than £5,000. comparing different quotes, make sure ■ a single or joint-life annuity; if you base your request on identical joint life, whether the pension You should now have the facts you need types of annuity. to your partner is paid in full to get quotes from a range of providers. or reduced (say by one-third); Remember that annuity quotes are Annuity rates can be compared by usually only fixed for between 7 and 28 visiting the FSA’s Comparative Tables ■ a level or escalating annuity; if days from the date they are issued. at www.fsa.gov.uk/tables escalating – then by the RPI or a fixed rate. Alternatively, get specialist financial advice – see page 28. 4. Think about whether you want payment of your annuity to continue for a specific number of years (5 or 10), should you die shortly after retiring. 24 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 25
  15. 15. However, the Government has single-life annuity for person of your age indicated that alternatively secured and sex. There is no minimum amount. Other retirement options pensions are only intended for a small group of people who have a principled For more detailed information, see the FSA Factsheet Income withdrawal – a religious objection to buying an retirement option for you? annuity. You should take this into account when making a decision on Phased retirement and income how to secure your pension. Also, Alternatives to buying a lifetime annuity. inheritance tax may apply to any withdrawal can be combined. left-over funds on your death. This means you would start to draw an Unsecured pension using short-term All these options involve extra costs income from just part of your pension annuities and extra investment risk compared Unsecured pension using income fund on one date, leaving the rest of the with buying a lifetime annuity With a short-term annuity, you can use withdrawal fund intact. To increase your income at straight away. They are not usually part (or all) of your pension fund to a later date, you could either increase buy a fixed-term annuity lasting up to You can take a taxable income direct suitable if you have a small pension the rate of withdrawal (provided you five years. You can choose your annuity from your pension fund – this is called fund (after taking any lump sum) did not exceed the maximum limit) or options in much the same way as basic ‘income withdrawal’ or ‘income or you have no other assets and start to draw an income from a further annuities (see page 8). In the meantime, drawdown’ or ‘pension fund sources of income to fall back on. slice of your pension fund. the remainder of your fund continues withdrawal’. to be invested. If you use one of the above unsecured Income withdrawal is an option with pension options and reach age 75 you If, for whatever reason, you decide At the end of the term of the annuity most personal pensions and some will have to make a decision about that you’re not ready to buy a lifetime you can buy another short-term occupational money purchase schemes. how to secure an income from your annuity, you will have the following annuity. You can also combine income In some cases if you are in an pension funds. options: from a short-term annuity with employer’s scheme and want to use income withdrawal. You can continue income withdrawal, you must first ■ an unsecured pension using short- in this way until you are ready to buy transfer your pension rights from the term annuities or income a lifetime annuity or until you reach employer’s scheme to a personal withdrawal; and age 75. pension. There will probably be charges ■ an alternatively secured pension. for making this transfer. An unsecured pension will stop at age An unsecured pension means that after 75. By that time, you must secure an The income you take from the fund must taking tax-free cash, the remainder of income from your pension funds, which be reviewed every five years to make your pension fund remains invested. generally means buying a lifetime sure it is in line with HM Revenue & annuity. A variant to this is an Customs limits. You can draw an income alternatively secured pension, which from your fund up to a maximum works in a similar way to an unsecured income that is equivalent to 120% of pension but has slightly different rules. the income you would get from a level 26 Shop around for the best annuity rates online at www.fsa.gov.uk/tables Shop around for the best annuity rates online at www.fsa.gov.uk/tables 27
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