Six reasons to delay an annuity purchase
The key advantage of an annuity is certainty of income for life and while this is an attractive benefit, it is one that is fixed for life and is inflexible.
But this is not a decision that needs to be made at the point of taking retirement, it can be deferred, and sometimes to your advantage. Here are reasons why it may make sense to delay taking an annuity:
1) Change in annuity rates
Annuity rates fell from highs of 10.6% in the 1990’s to lows of around 4.7% in 2016. Although they have since begun to rise again, many believe they still don’t provide attractive rates of return. Annuity rates would move higher if interest rates moved higher. The prospects for future rate increases are mixed, with much depending on the UK’s management of its extraction from Europe and its economic outlook following that. Deferring taking a pension until annuity rates improve could mean a secured higher rate of income.
2) Retention of capital
When an annuity purchase is made the capital amount is passed to the annuity provider and swapped for a guaranteed income for life. Although there is the option of some capital guarantee to be built into an annuity, if you die early, you have lost your hard-earned pension pot and not had much to show for it. There is the option to have a dependents’ pension built in, which often reduces the starting level of pension income secured and can be rigid in terms of named beneficiaries. If an annuity is not purchased, the individual retains control of the pension capital for as long as possible, only giving up the capital when it’s really needed.
3) Change of health
When purchasing an annuity a provider will assess the health of the annuitant at that point in time. As people age, their health is likely to deteriorate, which could result in a higher rate of annuity income. This is due to the life expectancy being shorter and therefore payments being made over a shorter period of time.
As well as this, it is possible to develop a serious health condition that could severely shorten your life expectancy. If an annuity has already been purchased and secured in the years of better health it would result in a capital loss, with a lower rate of income being received and the provider obtaining the remaining capital at the point of death.
4) Change in dependants
At the point of purchasing an annuity, a dependants pension – which will continue on death – can be built in but will incur an additional cost. This means a lower rate of income per annum will be secured to compensate for the cost of the dependant pension., If the dependant should die before the annuitant, the benefit purchased will never come into payment and the cost of that benefit will have been wasted.
5) Retention of investment choice
Where capital is retained, so too is the ability to control the investment of it. If capital is managed well and the value increases, a higher income might be obtained using drawdown or an annuity at a later date, than would have been the case with immediate annuity purchase.
However, the opposite is also true. As we are all aware, values can go down as well as up, therefore if the value of your investments reduces so too will the income from the drawdown plan. This acceptance of risk is absolutely key to the concept of annuity deferral.
6) Taxation if you’re still receiving income
Income received from an annuity will most usually be a fixed amount, there are some instances where it can increase at a fixed level but it cannot be reduced or stopped. Therefore, if you have other fluctuating income sources the fixed level of annuity income could take you into a higher rate tax band increasing your tax liabilities.
The majority of retirees spend their early years of retirement fulfilling their golden year dreams. By deferring buying an annuity you will hopefully reduce the likelihood of any fluctuations in income and therefore can ensure you are receiving a level of income to keep within a lower tax band, incurring less tax charges.
Martin Tilley is director of technical services at Dentons Pension Management