Is now a good time to buy an annuity?

Annuities have been out of favour for the past few years as retirees looked at other ways of funding their retirement. Now, a series of interest rate hikes is making annuities look more attractive again.

 
While an increase in annuity rates is good news for anyone seeking a guaranteed retirement income, it doesn’t necessarily mean buying an annuity is the right choice for you.

Here, we explore how much income you could get from an annuity versus income drawdown, and what else to consider when you weigh up your options.

How much could I get from an annuity?

Our analysis shows that someone with £500,000 in pension savings who buys an annuity at age 66 could currently expect retirement income of £28,744 a year. If they had £1m in pension savings, that figure would rise to £57,627 a year¹.

If they opted for income drawdown instead, a £500,000 pension could provide annual income of £31,331 until age 87 or £25,126 until age 95. This assumes the pension fund grows at 5% a year after charges and that the income increases annually with inflation (assumed at 2%). For a £1m pension, the corresponding figures are £62,662 and £50,252, respectively.

Compared with a couple of years ago, when annuity rates were much lower, the gap between the income you can expected from an annuity versus income drawdown has narrowed significantly.

What’s better – an annuity or income drawdown?

How much income you’re likely to receive is just one factor to consider when deciding how to access your pension savings. Whether now is a good time to buy an annuity will be completely personal to you. A financial adviser can help you decide on the right approach, but a useful first step is to understand the key differences between annuities and income drawdown.

An annuity will provide you with a guaranteed income for life, no matter how long you live. From day one, you’ll know how much income you’re going to receive each year. Annuities offer certainty – and that may be particularly reassuring if you’re worried about the recent volatility in the stock market. On the flipside, annuities are inflexible – you can’t change your mind once you’ve bought an annuity, and you can’t vary your income to reflect any changes in your circumstances.

Income drawdown is more flexible because you can adjust the amount and frequency of your withdrawals. Your pension remains invested, so there’s also the potential for your savings to grow over the long term. However, there is a risk that your pension doesn’t last as long as you need it to – either because your investments don’t perform as well as you hoped or you withdraw too much money. It’s really important to ensure your pension is carefully invested and that you have a robust drawdown strategy in place.

Are there any other options?

Taking a blended approach to retirement income – where you use part of your pension to buy an annuity and keep the rest invested – could give you the best of both worlds. You could, for example, buy an annuity to fund your essential expenditure; you may get some comfort from knowing you have a guaranteed income to cover your bills and weekly food shop. You could then use income drawdown for discretionary expenditure, withdrawing money as and when you need it.

If you have other savings and investments, you could also use these to fund your retirement. ISAs, for example, are a tax-efficient source of retirement income because withdrawals are completely tax free. A financial adviser will be able to look at all your assets and advise on the best way to access them in retirement.

Next steps

The increase in annuity rates is certainly something to consider when you’re deciding on how to fund your retirement, especially if you’re worried about stock market performance. However, the decision that’s right for you will ultimately depend on your individual circumstances.

It’s really important to understand all your options and the risks involved. This is where getting some smart advice can help. An adviser will take the time to understand your goals and aspirations, and help you make sure your retirement plan is a resilient one.