Annuities explained Buying an annuity
Once you've bought an annuity there's no going back, so you've got to get it right first time.
Depending on the provider you go to, you can increase your income by up to 20% just by shopping around.
If you're not in the best of health, you may be eligible for an annuity called an 'enhanced' or 'impaired' annuity. These products pay better rates because the annuity providers expect to pay the annuity over a shorter period. See the enhanced annuities section for details.
Open market option
With most pensions, you automatically have what's called an 'open-market option' (OMO). This means you don't have to take the pension offered to you by your pension provider, but have the right to take your built-up fund to another provider to get a higher annuity rate.
Pension providers are obliged to remind you of your right to take the OMO. The Financial Services Authority (FSA) produces useful factsheets on annuities and other pensions issues.
If you have a retirement annuity contract (RAC), which is an older form of personal pension available before 1988, then you may not have access to the OMO – it depends on your contract's terms. If you do transfer to a personal or stakeholder scheme, you are bound by the different tax rules.
If you belong to a money purchase occupational or an in-house AVC scheme, the scheme trustees may be responsible for buying the annuity. But don't be afraid to ask what steps they have taken to get you the best rate.
Using the OMO is usually a good idea. However, some providers offer a guaranteed annuity rate on pension funds built up with them – this could be a far higher rate than any currently available, so check your position before you take your fund to a new provider.
Also watch out for any charges if you exercise the OMO. In general, there shouldn't be any if you retire at the original planned retirement date. But some providers make charges if you retire earlier or later.
Annuity rates are typically affected by:
- The provider you choose – in the case of a pension annuity, this doesn't have to be the company you built up your pension fund with.
- Life expectancy – as life expectancy increases, annuity rates tend to fall.
- Annuity rates at the time of purchase – these depend on interest rates generally, as well as on government gilt prices.
- Your age – the older you are when you buy the annuity, the higher the income you get. This is because the insurer doesn't expect to be paying it for as many years.
- Your sex – women are offered lower annuity rates than men for the same lump sum because they live longer on average.
- Your health – people in poorer health can get a higher rate with an enhanced life annuity because they're not expected to live as long.
- The type of annuity you choose and any extras you choose to build into your annuity, such as index-linking, guarantees and survivor's pension.
There's plenty of easily available information on annuity rates. The FSA includes annuity rates in its series of comparative tables. You can also find rates in newspapers and on websites such as the The Annuity Bureau, Annuity Direct, Hargreaves Lansdown and Premier Retirement.
Annuities and financial advice
Take professional advice to help you decide what type of annuity would work best for you. If you're thinking about an enhanced annuity, investment-linked annuity, income drawdown or phased retirement, then advice is essential.
The FSA has a very useful guide to annuities and income withdrawal, but it isn't a substitute for proper advice.
Always make sure you only see independent financial advisers (IFAs) who can look at the whole market for you. Tied advisers can look at only a selection of providers (sometimes just one) and there is no guarantee that their selection will include those offering the best rates. Only by comparing the whole market can you be sure you've received the best annuity rate.
Certain financial advisers, including Annuity Direct, The Annuity Bureau and Hargreaves Lansdown, specialise in annuities. Usually, advisers either charge a set fee or receive commission based on the products you buy. IFAs (which these all are) must offer you the choice of paying by fee, commission or a combination of both.
The Pensions Advisory Service (0845 601 2923) also produces a wealth of information on pensions.
These contacts are a good place to start if you're looking for further information on annuities.
- IFA Promotion Tel: 0117 971 1177
- Personal Finance Society Tel: 020 7417 4442
- Annuity Direct
- The Annuity Bureau
- The Insurance Surgery
- Hargreaves Lansdown
- Premier Retirement
- For a personalised solution, call our experts on the Which? Money Helpline
- Take a look at our expert guide to writing a will
- To help find the right financial adviser, read our helpful guide