According to retirement income specialists MGM Advantage, if inflation averaged 3% over a 25-year retirement period, the real value of income will reduce by 53%.

This will wipe off £6.3bn from retirees’ purchasing power over that period.
MGM says that this figure is a conservative estimate and has based this on people retiring this year with an average pension pot of £33,000, choosing a level annuity with no escalation or index-linking.

A level annuity, also called a ‘standard’ annuity, pays the same income each year for the rest of the annuity holder’s life.

Andrew Tully from MGM Advantage said: “These figures show just how damaging inflation can be, wreaking havoc with people’s pensions and wiping thousands of pounds off their income over time. People close to retirement have some very tricky decisions to make when looking to convert savings into retirement income.

“With record low annuity rates the obvious solution could be to shop around for the best starting income you can find. However, there are other ideas to consider which could help protect your retirement income from inflation.”

The report showed that of the 400,000 people retiring each year who purchase an annuity, 90% choose a level income.

Tully added: “With 90% of people retiring currently choosing a level income, we are storing up trouble for future years when you factor in the impact of inflation.

“While some economists forecast higher inflation over the short term, even if inflation remained at the target of 2%, the real spending power of peoples’ income will reduce significantly over retirement.

“There are alternatives which may provide a higher starting income or the ability to hedge against the corrosive effects of inflation.”

Top tips for retirement

• Shop around for the right income option for your personal circumstances, and always try to secure the best annuity rate

• Consider enhanced annuities if you have a pre-existing health or lifestyle condition, which can add up to 40% to your income

• You can inflation proof your income by choosing an escalating annuity – but often you will find the starting income is significantly lower than other options

• Consider alternatives such as investment-linked annuities, which invest in equities and other asset classes providing a hedge against inflation, although this comes with a level of risk

• You could consider delaying taking your income if you can afford too, in the hope annuity rates or investment returns on your savings improve your income. However, this ‘cost of delay’ from the lost income is never likely to be recovered in your lifetime

• Those with larger pension pots could consider income drawdown, although again, this comes with a level of investment risk

• You could adopt a ‘mix and match’ approach, using a conventional annuity to secure an income while using the balance of your retirement pot to purchase an investment-linked annuity, which can provide a hedge against inflation with potential for investment growth and therefore growth in income