Contents:
 What is an Annuity?
 When might I need an annuity policy?
 Types of annuities
 Pension annuities
 Annuity income options
 Enhanced and Lifestyle annuities
 Impaired Life annuities
 Annuity rates
 FAQs
 Where can I go to get more help?
What is an Annuity
An annuity is an agreement or contract, where a person or a company, usually a life
insurance company (but it can also be a charity or a Trust) agrees to pay another
person, the annuitant, a series of income payments.
An annuity is purchased by the annuitant, either by:
 making regular instalments which are invested (known as a regular payment
annuity)
or
 with a lump sum (known as a single payment annuity).
Annuities can be bought with savings or with a pension fund. Annuities are commonly
used for retirement plans, (link to retirement planning booklet) as part of a retirement
pension. There is usually a minimum fund size required required to buy an annuity.
In very basic terms, an annuity is calculated by taking the amount of money you have
invested (plus the interest) and dividing it by the number of years you are expected to
live.
Although annuities are purchased through a life insurance company, unlike life
insurance, (link to life insurance booklet) an annuity does not require a physical
examination and, instead of just paying out on death, the annuity is used to provide
an income to the annuitant while they are still alive.
An annuity that pays you an income for the rest of your life is called a life time or life
annuity. In exchange for your pension fund (or other savings) the annuity company
promises to pay you a regular income, which can be paid monthly, quarterly, halfyearly or annually, this income is taxable.
When an annuity is purchased, the annuitant signs a contract which details the exact
terms of the annuity, including the length of time that it covers, i.e. for the life of the
annuitant or for a fixed number of years.
A life annuity is a form of longevity insurance. When the annuitant dies or the fixed
term ends the contract terminates and any remaining funds are forfeited, unless there
are other annuitants or beneficiaries named in the contract.
From April 2011, the UK Government
will end the rule that means you have
to buy an annuity with your pension
savings when you reach the age of 75.
As a result of the Emergency Budget in June 2010, the UK government is phasing
out the compulsory age limit for buying an annuity with your pension fund and
introducing measures for people turning 75 before April 2011, who haven’t yet bought
an annuity.
Because annuity policies and contracts are complicated it is always advisable to take
independent financial advice or use the services of a qualified annuities adviser
before purchasing an annuity. This booklet explains the different types of annuities to
help you make more informed decisions in consultation with your adviser.
When might I need an annuity policy?
In the UK, up until recently, it has been compulsory to convert at least 75% of your
pension fund into an annuity when you reach age 75 (as at June 2010 the
Government is currently planning to remove this age limit altogether). But even if you
are under 75 there are still good reasons to have an annuity policy, especially if it's
part of a retirement plan.
If you are lucky enough to be gifted an annuity through a charity or trust then
obviously the extra income will be beneficial whatever age you are!
However, even if you are buying your annuity they are a good way to ensure a fixed
and stable income when you stop working. Retirement annuities can also be set up
to provide an income for two people, i.e. you and your partner or spouse. In addition
to this annuities can be tailored to suit your personal needs, for example when setting
up an annuity you can choose:
 whether the income stays the same throughout your lifetime or increases
each year,
 to guarantee payments for a minimum period of time, such as five or ten
years, even if you die within that period.
 whether the income ceases on your death or transfers on to a spouse, civilpartner or dependant.
Buying an annuity is one of
the few situations where
being a smoker or having
poor health can be an
advantage when getting an
insurance policy!
If you smoke or are in poor health your life expectancy is likely to be shorter,
therefore life insurance companies can afford to pay you higher annuity incomes,
because they expect to pay it for a much shorter time, than for someone who doesn't
smoke and is in good health.
Based on the current UK population, the number of over 65s in the UK is set to swell
by 60% to 15 million people in the next 20 years, and one of the biggest risks
pensioners face in retirement is living too long and their savings running out. Buying
an annuity can be a good way to ensure you have a retirement income for the rest of
your life.
Types of annuities
There are two types of annuity available in the UK, these are:
 Voluntary Purchase Annuities
 Compulsory Purchase Annuities (Pension Annuities)
The main difference between voluntary and compulsory purchase annuities is
voluntary purchase annuities are bought with personal savings (not pension scheme
savings) or a capital lump sum, there are also tax differences. The capital lump sum
used to buy a voluntary annuity can be the 25% tax free cash lump sum you are
allowed to take from your pension fund.
Compulsory purchase annuities are bought with pension funds as a requirement of
HM Revenue & Customs. Everyone who has a private (non-state) pension scheme is
expected to buy a compulsory annuity with at least 75% of their pension fund
(allowing for 25% to be taken as a cash free lump sum). These are called pension or
retirement annuities.
Voluntary purchase annuities can offer an alternative to putting your savings into a
bank or building society. Putting your savings into a bank account means you can
earn interest and you get your full savings amount back from the Bank when you die
or close the account. However, the amount of interest earned is affected by rising
and falling interest rates.
Using your savings to buy a voluntary annuity can provide a higher income than bank
interest payments would, but you don't get your initial savings amount back if you die
or when the annuity term ends. However, you are guaranteed a certain level of
income which is not affected by rising or falling interest rates.
A voluntary annuity can be a good option for people who don't need to have a lump
sum left in the bank when they die, and want to use their savings to 'buy' an income
to use while they are alive. It is always essential though to consider other investment
options which also generate income, such as investment bonds, ISAs and some
National Savings products, before taking out a voluntary purchase annuity.
The table below outlines the types of voluntary purchase annuities available in the UK:
Voluntary Purchase
Annuity Type
How it works
Also known as an Immediate Life Annuity, it pays a
regular, guaranteed income for either:

the rest of your life,
or
 for a fixed period of between 2 and 20 years
(temporary annuity).
Purchased Life Annuity
Taxed differently to pension annuities, income is made up
of a 'capital' part and an 'interest' part. The capital part is
treated as a return of your capital and is therefore not
taxed.
Similar annuity income options are available as for pension
annuities.
No age limit to buy, anyone of any age can have one.
Minimum amount required to buy is around £5,000.
Maximum investment amount around £500,000.
Can also be known as an Immediate Life Annuity, it pays a
regular, guaranteed income like a purchased life annuity
but can be purchased from either:
 accumulated savings
or
 a pension fund.
Immediate Vesting
Annuity
Must be aged 55 years or older to purchase. Taxed
differently to purchased life annuities. Provided you are
over 55 and a UK resident, you are entitled to up to £720
in tax relief and an immediate tax free lump sum. For
example, if you contribute £2,880 to an immediate vesting
annuity, you receive £720 in tax relief, bringing the
contribution amount up to £3,600. Of this, 25% is paid
back to you in the form of a tax free lump sum of £900.
The remainder of the fund goes to purchase the annuity.
Pension Annuities
There is a large market in the UK for Pension Annuities, also known as Retirement
Annuities. The table below outlines the most common types of UK pension annuities:
Pension
Annuity
Type
How it works
Single
Lifetime
Annuity
Also known as a conventional pension annuity. Purchased from a life insurance
company with the proceeds from a pension fund and put into fixed investments.
Provides secure, guaranteed, risk free income for the life of the annuitant,
however long they live. The annuity policy stops when the annuitant dies with no
further payouts.
Also known as phased draw-down, works the same as a conventional pension
annuity but you only use part of your pension fund to buy the annuity. Income is
Temporary/s
paid for a fixed period of of up to 5 years or up to age 75 whichever occurs first.
hort term
Income payments can be level or increase each year at a fixed rate or in line
annuity
with the Retail Price Index. Suits people who want to delay buying a lifetime
annuity.
Investment
linked Variable
A combined annuity which is partly a fixed conventional annuity and partly an
investment linked annuity. Income is partially guaranteed with the possibility of
increasing but not as secure as a conventional annuity. Flexible options as your
needs and dependants’ needs change.
Investment
linked - Unit
Linked
A lifetime annuity but your pension fund is invested in units in investment funds,
annuity income is linked directly to how well the funds you have invested in
perform. You can usually choose the types of investment funds from:
 Medium-risk managed fund - broad range of various different shares and
other investments to spread money and reduce risk.
 Higher-risk managed fund - various shares and other investments in a
particular sector, such as smaller companies. Money is less widely
spread so risk is higher.
 A tracker fund - closely follows the performance of a particular stock
market related index. Usually has lower charges than managed funds.
The more risky the underlying fund selected, the more income may vary, up and
down. This is a medium to high risk annuity.
Combines an income for life with investing in the stock market. Income can go
up and down depending on investments selected, but this annuity guarantees
Investment
linked - With income will never fall below a certain minimum level over the longer term.
profits
Investment growth can keep income higher than inflation. This annuity is low to
medium risk, but more complex than other options.
Investment
linked Flexible
Provides an income for life but provides more flexibility
and control over income, than other annuity options. For example, funds can
stay invested in chosen investment funds until you are aged 80 years or over.
Income is linked to performance of selected funds and isn’t guaranteed. Annuity
income in future years could be lower than the amounts at start.
Protected
Rights
Annuity
If you contract out of the Additional State pension, and put National Insurance
(NI) rebates into a personal pension fund, you must use that part of that pension
fund to buy a protected rights annuity. Your pension provider can tell you if
protected rights applies to you and what it might mean in your circumstances.
You will usually have to buy a joint-life annuity paying a 50% spouse’s pension
benefit if you are married or have a civil partner. You can choose between taking
level annuity payments or an escalating income.
Annuity income options
Most annuities come with options you can add to the annuity contract at an extra
cost. It is important to note that, except for flexible annuities, these options usually
can't be changed once they've been added to your annuity contract. Common
options that can be included in an annuity include:
Annuity option
What it offers
A joint or dependent annuity continues to a named person
when you die. The payments can remain at the same level
Joint Spouse/Dependent
or reduce to a previously nominated percentage, i.e. a
third or a half of your payments.
Level or Escalating
payments
Income payments can remain the same, i.e. a fixed rate of
3% throughout the life of the annuity (level), or can be
linked to the Retail Price Index to increase in line with
inflation each year.
Guaranteed Period
A normal lifetime annuity stops as soon as you die, but if
you select a guaranteed period of between 5 and 10 years
your annuity is guaranteed to pay out for that period
regardless of when you die. If you are alive at the end of
the guaranteed period, the annuity continues to pay until
you die at which point the annuity policy stops.
This option guarantees a lump sum payout if you die
Lump sum death
before age 75. The payout is based on how much you've
benefit/capital protection already received from the annuity, less any costs. These
lump sum payouts are currently taxable at 35%.
Overlap
Available if you have taken both a joint annuity and
guaranteed period option - it enables the annuity
payments to transfer to your spouse and still receive the
guaranteed payments if you die. Without this option your
spouse would have to wait until the guaranteed period is
over before starting to receive their annuity payments.
Having additional options
can significantly reduce the
income you would get from
your annuity, so take advice
and ensure you select
options carefully.
Enhanced and Lifestyle Annuities
Generally annuity rates and income levels are based on your age, an assumption
you are fit and healthy with a normal life expectancy, and more increasingly in the UK
where you live, people who live in less affluent areas usually get higher annuity rates!
However, people who are not fit and healthy or don't have a normal life expectancy
due to medical reasons can benefit from a:
 Lifestyle Annuity
 Enhanced Annuity
 Impaired Life Annuity
The income from these annuities is based on your health and/or lifestyle, and, unlike
other annuities you will be asked for a report from your doctor to verify the details on
your application form. If you are accepted for an enhanced annuity, your income will
be higher than from a conventional annuity, sometimes as much as 40% higher,
because the annuity provider expects to pay your income for a shorter period of time.
This can make a substantial difference so always take advice to ensure you are
offered the right type of annuity for your personal circumstances.
A lifestyle annuity takes into account environmental, behavioural and medical factors
(which may include smoking over a long period, obesity, high blood pressure, etc).
An enhanced annuity pays more than a lifestyle annuity, because as well as being
available for regular smokers, and people who are overweight, it may also cover you
if you have spent most of your working life in a hazardous occupation, such as
mining.
The Pensions Advisory Service gives the following list of providers who offer
enhanced annuities:
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Aviva
AXA
Canada Life
Just Retirement
Legal & General
LV=
MGM Advantage
Partnership
Prudential
Reliance Mutual
Scottish Widows
Note: These providers will only accept business through an Independent Financial
Adviser.
Impaired Life Annuities
An impaired life annuity pays an income for life like conventional annuities, but it is
specifically for people who have a medical condition which severely reduces their life
expectancy, including, but not limited to:
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high blood pressure
diabetes
heart conditions
kidney failure
certain types of cancer
multiple sclerosis
chronic asthma
The income from these annuities is mainly based on your medical condition and life
expectancy, so unlike other annuities you will be asked for a report from your doctor
to verify the details on your application form. If you are accepted for an impaired life
annuity, your income will be higher than from a conventional annuity because the
annuity provider expects to pay your income for a shorter period of time. This can
make a substantial difference so always take advice to ensure you are offered the
right type of annuity for your personal circumstances.
The Pensions Advisory Service gives the following list of providers who offer
impaired life annuities:
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Aviva
Canada Life
Just Retirement
Legal & General
LV=
MGM Advantage
Partnership
Prudential
Note: These providers will only accept business through an Independent Financial
Adviser.
Annuity rates
Annuity rates are set by insurance companies selling annuities, in the same way
Banks offer different savings rates. Annuity rates are reviewed frequently and go up
and down making it difficult to determine when it's a good time to buy an annuity. An
annuity rate is what is used to convert a pension fund or lump sum into an annuity,
for example:
Value of fund x Annuity rate = Annuity
The actual amount of income obtained from an annuity is dependent on several
factors including the size of the fund used to buy the annuity, the annuity rate used
and the type of annuity purchased.
With a retirement annuity, the annuity is either purchased on your behalf by your
pension provider or you can take what's called an open market option (OMO) which
involves searching the market place for the best annuity rate. A pension provider that
has been investing a fund on your behalf may not always be in a position to offer the
best annuity rates. Some types of pensions don't qualify for an open market option
but if yours does, taking advantage of the open market option can increase your
annuity income by as much as 15% to 30%. However, your pension may include a
guaranteed annuity rate (GAR) which may be better than current open market rates
so always check this first.
If you have a pension fund of less
than £10,000, you may be limited
by the number of annuity providers
who will accept your fund.
Because some annuity rates can be linked to inflation, your annuity payments might
be reduced if inflation falls below zero, unless you take out a guarantee against
negative inflation at the start. This guarantee has a cost and can reduce your starting
level of income.
Buying an annuity is a financial commitment which can't be altered once you have
entered into an annuity contract. Getting the right annuity for your needs is very
important so wherever possible take the advice of an Independent Financial Adviser.
Always ask for a Key Features document from annuity providers or from your
financial adviser, these documents will provide important information about the
annuity including:
 The annuity rate
 The type of annuity being offered, i.e. a fixed term
or lifetime annuity
 How and when you will receive the annuity
income
 Annuity charges
 What any dependents may get if you die
You can take advantage of independent online comparison sites that
compare annuity rates from different providers. It's important to take your
time to compare as many providers as possible to make sure you
understand what's available. We've included some links below to respected
independent comparison sites to help start your research:
http://www.rightannuity.co.uk/ - Best annuity rates from some of the leading UK
annuity providers. Specialist quote facility if you have ill health and qualify for higher
annuity rates.
http://moneyfacts.co.uk/compare/investments/annuities/ - Find and compare the best
annuities.
http://www.beatthatquote.com/pensions/annuities.html - Compare Annuities: Life
Annuity, Pension Annuity, Retirement Annuity and Fixed Annuity
Frequently asked questions
Here are some frequently asked questions and their answers which may also assist:
What is a Guaranteed Annuity Rate (GAR)?
 A Guaranteed Annuity Rate (GAR) provides a fixed rate for converting a
pension fund into an income at retirement.
 It is written into the policy conditions of your pension and does not alter with
changing investment conditions.
 The rates are usually more generous than those available on the open
market.
 They may, however, have conditions that limit the way your annuity is paid,
e.g. often there is no provision for annual pension increases or for a pension
payable to your spouse upon your death.
What is a Retirement Annuity Contract (RAC)?
Retirement Annuity Contracts (RACs) are a type of pension plan that individuals
could take out up until 1 July 1988, when the current form of Personal Pension Plan
(PPP) was introduced in the UK. Retirement Annuity Contracts were available to
those in employment where there was no access to an occupational scheme and to
those in self-employment, provided they had earnings subject to UK taxation.
After 1 July 1988, no new Retirement Annuity Contracts could be taken out but those
with existing contracts were able to continue to contribute to them. While the new
personal pension plans were designed on similar lines to Retirement Annuity
Contracts, there were some areas in which they differed. Retirement Annuity
Contracts were allowed to retain some features that did not apply to Personal
Pension Plans. From 6 April 2006, under new rules introduced by HM Revenue &
Customs, Retirement Annuity Contracts were put on the same basis as Personal
Pension Plans and almost all of their special features no longer apply.
Why would I need to include the option of a Guarantee Period in my
pension annuity?
If an annuity is guaranteed for a specified period, it is guaranteed to be paid for that
period, regardless of when you die. For example, if you bought an annuity today, with
no guarantee period, and died shortly afterwards, the money you used to buy the
annuity is gone, and your estate would receive nothing. But if a guarantee period is in
place, your estate continues receiving the annuity pension payments for the
remainder of the guaranteed period.
Is 'Income Drawdown' the same as buying an annuity?
Income drawdown is an alternative option instead of buying a lifetime annuity when
you reach retirement. Income drawdown is also known as an unsecured pension.
Income drawdown is an arrangement that enables you to start drawing an income
from your pension fund while the fund remains invested. It is usually something done
with larger pension funds of around £100,000 or more, and for people who have
other assets.
How are annuity rates calculated?
Annuity rates are calculated by actuaries (financial experts who use statistics to
calculate insurance premiums). They use several factors such as:
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mortality rates
interest rates
age
gender
health (in some cases)
Generally, the older a person is the higher their annuity rate because their life
expectancy is shorter than a younger person. Men also get higher annuity rates than
women of the same age because men statistically have a lower life expectancy.
Where can I go to get more help?
The following links may also provide additional help and information:
The Consumer Finance Education Body (CFEB) has annuity rate comparison tables
on their Moneymadeclear website showing providers currently offering the best
annuity rates and how much you could receive.
The Pensions Advisory Service (TPAS), is an independent voluntary organisation,
grant-aided by the Department for Work and Pensions (DWP). They provide
information and guidance on all pension matters, including state, company, personal
and stakeholder schemes. They can also help if you have a problem, complaint or
dispute with your occupational or private pension arrangement.
Reputable annuity providers should be a member of the Financial Services
Association (FSA). Check the FSA register at www.fsa.gov.uk/Pages/register/ to see
whether your provider is registered and regulated by the FSA.
An Independent Financial Adviser (IFA) may be able to assist you in comparing and
purchasing annuities. You can find a number of IFAs in you local area by
using www.unbiased.co.uk.