Factors That Determine Your Annuity Income

As annuity rates dip after the infamous credit crunch, pensioners were left with a bare minimum monthly income despite selling their entire hard-earned pension pot.

Then came the pension overhaul which has changed the way retirees can access their pension pot and use it.

Buying an annuity before the age of 75 is now merely an option that pensioners can choose to ignore. They can instead take the entire amount as a cash lump sum or draw small instalments of money when they wish to.

But as experts recommend, buying an annuity may still be a better choice, because it guarantees retirees with a fixed monthly income for the rest of their lifetime.

With rising life expectancy, a person’s retired life could last well beyond two decades, even three. Will the money last that long if you take it all in one go?

Would you rather blow your entire pension on a Lamborghini or have a fixed monthly income that remains unaffected by the economy or the stock market crash?

How much will you get?

The first question that most savers ask is, ‘How much money will I get every month if I buy an annuity’. The answer is relative.

There are multiple factors, individually dependent, that can influence your annuity income. Here are some of them.

  1. The Type of Annuity: Buying an annuity is a one-time decision that usually cannot be reversed. So, ensure that you know what you are choosing. The type of annuity you choose along with the options you select will impact your monthly retirement income. For example, if you have a dependent spouse or child, you may have to opt for a joint-life annuity which will reduce your monthly income but ensure that the income will be paid to your dependent nominee for the rest of their lifetime.
  2. Annuity Rates: The annuity rate when you buy the annuity is one of the most crucial factors that will influence your income. If the rates are high, you get a higher monthly income. If the rates are low, the income will be lower.
  3. Deposit Amount: More the money you put into an annuity, the higher you get each month. If you have accessed your pension pot and drawn the tax-free cash lump sum amount (25%), then you may be left with a smaller amount to exchange for your annuity.
  4. Payment Terms: How do you wish to be paid? An annuity provider can pay you monthly, quarterly or even yearly. The more you defer the payment, larger the amount you receive.
  5. Age: The younger you are when you buy an annuity, the lesser you will receive. For example, if you buy an annuity at 65, the insurance company will consider your current health and the life expectancy at that time to determine your monthly income. At the same time, if you choose to buy an annuity at 75, your life expectancy reduces. So, the annuity provider has to pay you a fixed monthly income for less number of years. Hence, you may qualify for a higher monthly income than what you would have received if you bought the annuity at the age of 65.
  6. Your Pension pots: The number of pension pots you have accumulated over the years will increase the amount of money you use to purchase an annuity. So, consolidating your pension pots can give you a higher monthly income.
  7. Inflation: Inflation can affect what you can purchase with your fixed monthly income in 10 years from now. So, unless your annuity income increases with time, it could not be enough for you to lead the lifestyle you do currently. A positive sign is that inflation rate in UK reached an all time record low of -0.10 percent in April 2015. But whether the trend will continue or increase; only time can tell.
  8. Tax: Annuity payments are subject to taxation at your usual rate. So, if you have other sources of income, then you must speak to an independent financial expert about your financial circumstances before you invest in annuities.