Rate increases over the past year have seen annuities become a relatively more attractive retirement option. But a lack of flexibility remains a concern for certain savers. A ‘blended’ solution that incorporates an annuity purchase with a segment of pension funds, while keeping the remainder invested and easily accessible, could provide the right balance.
The appeal of annuities
Annuity rates have risen substantially over the past year from the lows seen over the five-year period from 2016 to 2021. This has made them a more appealing proposition for retirees who wish to benefit from the safety net of a guaranteed income during their retirement.
Flexible drawdown vs. an annuity
An annuity is, however, inflexible, as once taken out it can’t be changed. It also can’t be passed down the generations, unlike flexi-access pensions. Purchasing an annuity could also result in missing out on many years of potential investment growth.
With annuity rates low in previous years, many savers have opted for a flexible drawdown approach when they reach the age of 55, taking 25% of their pension pot as tax-free cash, and keeping the rest of the funds invested, dipping into it as and when it is needed.
A blended retirement solution?
With annuity rates currently attractive, a two-pronged approach could be a valid solution. Individuals can access their tax-free cash at the outset. A portion of the remaining pension funds can be used to purchase an annuity, while the remainder is kept within the pension wrapper. This provides a guaranteed income for life (or a set period). At the same time, you can keep some money invested for the long term. Any remaining flexi-access funds can then be passed on to beneficiaries without an inheritance tax charge applying.
Drawdown vs. annuity comparison
When weighing up the pros and cons you should consider the income possibilities of each strategy. In previous years, given that annuity rates have been low, there has been a risk that the total income received is less than the pension savings used to purchase the annuity. The example below illustrates why a blended solution may be an attractive option in the current environment.
If the couple were to live until the age of 85 (in line with average life expectancy) they would get more for their money via flexi drawdown (£55,000 per year as opposed to £46,000 via an annuity). This would enable them to spend more in the early years of retirement, when expenditure needs are usually higher.
If the couple lived until they were 100, an annuity would be more lucrative, to the tune of £12,000. Investment return assumptions can vary and change the picture. Opting for a two-pronged solution that allows you to tap into the benefits of both an annuity and flexible access could prove to be a sensible compromise, depending on your investment and retirement goals.
A financial adviser can help you assess your income needs and plan properly for retirement. Call 03300 564 446 to speak to a Lumin expert, or get in touch using our contact form.
This article is for general information purposes only and does not constitute financial advice or a personal recommendation. Past performance is not a reliable indicator of future results. Investments can rise or fall in value, and you may receive less than you originally invested. Tax treatment depends on individual circumstances and may change in the future.
