Are you approaching retirement
Here's a look at the benefits and negatives of pension fund annuities. What are the numerous Annuity pros and cons?
Annuity pros and cons: In this article you'll learn:
- When and why annuities might be the right choice
- When an annuity purchase might not suit you
We all dream of retirement, but if you don't have the right financial arrangements in place, retirement can turn into a nightmare.
There are a number of ways of releasing your pension funds, and one of them - an annuity - should near the top of your shortlist. In this article, we balance the pros and cons of choosing an annuity for your pension fund payment scheme.
Pros: Why you might choose an annuity...
- Guaranteed income for life - When we reach retirement age, one thing we value above all is security. And as far as reliability and safety are concerned, annuities deliver in spades. They provide a fixed income on a monthly, quarterly, half-yearly or yearly basis until your death - and that's what you want from a pension: the ability to provide for you until the end.
- 25% tax-free lump sum option - Say hello to a new car: take out an annuity and you'll have the option of receiving 25% of the total sum tax-free. The remainder of your pension annuity income will be subject to income tax.
- Rises with inflation - Some annuities offer income that rises with inflation, so you won't be left in the financial slow lane. This protection is important because there have been several periods when rampant inflation has wiped out investors. Just because inflation is low today doesn't mean it will always. Unfortunately, the return from inflation protected annuities is very low.
- Peace of mind - An annuity provides regular income for life, but what happens when you die? Does the remaining money disappear? If you choose a joint-life annuity, you'll have the option of automatically transferring the annuity payments to your spouse when you die. But be aware: the ability to transfer income to your spouse upon your death further down the line will mean you receive a lower income today.
- Extras for those with medical conditions - Anyone in poor health or with a lifestyle that might damage their well-being, such as smoking, could be eligible for an 'enhanced annuity'. These offer better annuity rates and higher regular payment amounts.
Cons: Why you might want to think twice...
- You can't change your mind - Once you've made your annuity choice, that's it - you can't make any changes to your payment frequency, terms or rate. This rule is due to change in 2017, but it isn't yet clear how the payment frequency changes will be made or if the cost of making changes will be prohibitive.
- It can be difficult to find the right product - Shopping around for annuities is essential, but with so many available (level annuities, joint-life annuities, single-life annuities, escalating annuities... the list goes on), it can be tough finding the right product for your needs. How can you decide if taking out income protection (spousal or inflation protection) is worth the loss of income today? Talking to an expert financial adviser is highly recommended.
- 'Penalties' for being healthy - It sounds morbid, but annuities are sold by insurance companies that are taking a chance that you might die before the full pension amount has been paid out. If the annuity provider believes you have a long life expectancy they are likely to give you a lower rate, as they will have to pay out more money over time.
- Connected to interest rates - Just like mortgages and savings accounts, annuities track the base rate of interest. The higher the interest rate, the higher your regular annuity income will be. With interest rates still at a record low, you'll be well advised to take a long, hard look at the annuities market before making a final decision.