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Annuity rates rise 20% in a year. Is now a good time to buy one?

Karl 21st Jun 2023 One Comment

Reading Time: 4 minutes

Amid speculation that interest rates will continue rising, annuity prices have risen 20% in the space of 12 months. So if you’re nearing retirement age, is now the time to buy a guaranteed income for life? Let’s take a look.

Keep on reading for all the details or click on a link to head straight to a section…

What is an annuity?

Buy an annuity from an insurance company and you’ll receive a guaranteed income for retirement.

Depending on the type of annuity, this income may be paid to you until you die (lifetime annuity), or for a set period of time (fixed-term annuity). Annuity income is taxable.

Importantly, you don’t have to use all of your pension pot to buy an annuity. For example, you can withdraw 25% of your pension pot tax-free. You can then buy an annuity with the rest (or some) of your remaining pot.

Unsurprisingly, the level of guaranteed income for your retirement will depend on a number of factors, such as your age, and your health.

Types of annuity

The are four main types of annuities that you can buy. These include:

    • Lifetime. These are a popular option for risk-averse retirees. That’s because a lifetime annuity is paid until death, so there’s no uncertainty surrounding how much of an income you’ll have to live on in retirement.  The drawback of these annuities is that if you die early, you may receive less than you paid in. However, if this happens, some providers may allow you to nominate a loved one to receive a lump-sum.
    • Fixed/short-term. As its name suggests, a fixed/short-term annuity is paid to you in retirement for a set period of time. Typically the term is five to 10 years. As well as receiving a fixed income for a set period of time, you’ll typically receive a ‘maturity payment’ when the term comes to an end.
    • Investment-linked. Think about an investment-linked annuity as a bit of a hybrid product. That’s because with an investment-linked annuity, part of it pays a guaranteed income. The other part is linked to investment performance. So, if the stock market rallies during your retirement, you’ll be quids in. Obviously if the opposite happens and stocks slide, your retirement income will take a hit.
    • Impaired life. If you have health issues, or you’ve been diagnosed with an illness, you may be able to purchase an ‘impaired life’ annuity. These annuities typically pay higher retirement incomes than other types, as holders are likely to have a lower life expectancy.

Annuities are complex products, and there are other types available, such as ‘level,’ ‘escalating’ and ‘inflation-linked’ annuities. To learn more about these, take a look at our comprehensive annuity rates explained article.

Why have annuities lost their shine in recent years?

It’s fair to say that annuities have lost their shine of late. This is mostly because rates have been at rock-bottom levels. After all, sacrificing a lifetime of pension earnings to buy an annuity that pays a pitiful sum may not seem the wisest of choices.

Another reason why annuities have lost their shine can be attributed to changes made to pension rules in 2015.

Pension Freedoms

‘Pension Freedoms’, as it was called by then-Chancellor George Osborne, gave individuals the power to access their private, defined contribution pension early. In other words, the changes made it possible to withdraw every penny from a private pension pot at age 55 – though only 25% could be taken as a tax-free lump sum.

For those reluctant to withdraw all of their pension, the changes also enabled pension holders to withdraw part of their pension, and keep the rest invested. This is known as ‘income drawdown’.

Crucially, the launch of Pension Freedoms also meant some pension schemes no long had to buy an annuity at all. This is another reason why annuities have become less popular over the past half-decade.

Why are rates now rising?

While buying an annuity is no longer the go-to for a lot of pension holders, it’s worth knowing that annuity rates have risen a lot this year thanks to higher interest rates.

Rates have soared in 2023

Helen Morrissey, a retirement analyst at Hargreaves Lansdown, explained just how much rates have risen this year: “Annuity rates continue to head skyward with a 65-year-old now able to get up to £7,144 per year from a £100,000 pension. This is up over £100 per year in just the last two weeks and a whopping 20% on this time last year. After being relegated to the side lines after Freedom and Choice annuities are once again taking centre stage and attracting more notice.

“This increase is likely to be in response to the looming rate rise we are expecting this week. Interest rates are one factor that determine annuity rates and while it is by no means a certainty, we have seen annuity incomes increase in line with interest rate rises over the past two years. With more increases rumoured to be on the way we could see further income boosts in the coming months.”

Morrissey goes on to explain that buying an annuity can be attractive for those looking to secure a guaranteed income in their later years. She also highlighted how it may be a good idea to buy an annuity in stages.

“Though they have dropped in popularity in recent years annuities should always be considered where there is a need for guaranteed income in a retirement strategy. The state pension will offer secure income up to a certain level but if you need more, and you don’t have something like a defined benefit pension scheme, then annuities are an important option.”

She added: “We could see further increases in the coming months, but this is not a given. You need to balance taking a wait and see approach with the income you could lose out on by not buying an annuity sooner. You can also spread the risk over time by annuitizing in slices rather than all at once, so you benefit from any future rate increases as well as higher incomes as you get older.”

How to buy an annuity

Even if you only part with a proportion of your private pension, buying an annuity is a big decision. It’s also non-reversible.

However, if rising rates have piqued your interest, it’s worth knowing that annuity products can vary massively between providers. This is why obtaining several quotes is very important. In other words, don’t just automatically go with your existing pension provider.

To learn more about retirement planning, take a look at our article: Are pensions worth it?

DisclaimerMoneyMagpie is not a licensed financial advisor and therefore information found here including opinions, commentary, suggestions or strategies are for informational, entertainment or educational purposes only. This should not be considered as financial advice. Anyone thinking of investing should conduct their own due diligence. 

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1 year ago

think I’m going to stick with elect with a pension plan after reading this

Jasmine Birtles

Your money-making expert. Financial journalist, TV and radio personality.

Jasmine Birtles

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