Types of Annuity
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There are different types of annuity to suit your needs and circumstances, but the basic types are:
- single life annuity – an annuity just for you if either you don’t have a spouse or partner, or they have their own pension arrangements; and
- joint life annuity – an annuity that will pay out to you and then your spouse or partner after your death (normally at a reduced rate).
You can also choose whether you want your single- or joint-life annuity to be level or escalating.
A Level Annuity
This pays out the same pension income throughout your life. In other words it does not increase in line with inflation. You will get more money to start with than you would from an escalating annuity, but it will buy you less in the future because of inflation.
An Escalating Annuity
This will normally start at a lower rate than a level annuity and will gradually build up. With an escalating annuity there are two main choices:
- fixed-rate - your income increases each year by an agreed fixed rate (for example 3% or 5%); and
- RPI-linked - your income is adjusted each year to reflect changes in the Retail Prices Index (RPI), which is the most common measure of inflation used by the government (ie the cost of living). The actual increase in your annuity will vary from year to year to match inflation, so the buying power of your pension will stay the same.
Although you will initially get less money with an escalating annuity than with a level annuity, it will increase each year. If inflation stays low, it can take up to 20 years or more for an escalating annuity linked to the RPI to pay out as much as a level annuity. But if you don’t have an escalating annuity, even low levels of inflation can, over time, significantly reduce your standard of living.
Annuity Options
You can also add some options to your lifetime annuity.
A guarantee period
You can guarantee your lifetime annuity for a specific number of years (usually five or ten) so it continues to pay the income for that time even if you die before then. The income is then usually paid to your partner or to another dependant.
Annuity protection lump-sum death benefit
This is a way of ensuring that if you die before the age of 75, your annuity doesn’t stop. A lump sum equivalent to the pension fund you used to buy the annuity, minus the income you’ve already been paid, will be paid to your estate or beneficiaries. There will be an income tax charge, and there may also be an inheritance tax charge.
Enhanced and impaired-life annuities
Some companies offer impaired-life annuities that pay a higher than normal income if you have health problems that threaten to reduce your lifespan. You might be able to get an enhanced annuity if you are overweight or smoke regularly.
Some companies offer higher rates to people who have followed certain occupations or people who live in certain parts of the country. Always check whether you may be eligible for either of these options.