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Pros and cons of different annuity options

This article is part of
Guide to Annuities Post-Pension Freedoms

Saving into a pension through your working life is intended to help fund your life in retirement. This can often be a further 20 years or more post retirement for many people.

Annuities have traditionally been a popular way for people to fund their life in retirement, and Alistair McQueen, pensions manager at Aviva UK, argues they will continue to be so, despite the difficult period they have endured in the wake of the Budget.

He says: “An annuity allows you to hand your pension fund over to an annuity provider and they will then guarantee a certain income for the rest of your life, for as long as you live. Many people value this certainty.”

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There are various types of annuities, each designed to meet different needs.

Mr McQueen says it is sensible to consider all options before purchasing an annuity as once your have made your decision and handed over your money to the annuity provider you cannot change your mind.

Individual, conventional: Often seen as the simplest type of annuity. It uses your client’s pension fund to provide them, and them alone, with an income for the rest of their life. When they die the annuity payments will stop.

Enhanced: Sometimes referred to as an ‘impaired life’ annuity, this takes into account health factors when setting guaranteed income. It is a refined version of the individual annuity and works on the basis that, if a client has a medical condition or their lifestyle features particular behaviours, they will have a shorter life expectancy and should get a higher rate.

Joint life: This product provides your client with a guaranteed income for the rest of their life - and will provide your client’s spouse, partner or financial dependant with an income for the rest of their life too. For children, the income will usually be paid until they reach a certain age; the rate will always be a proportion of the income they were receiving in retirement.

Inflation-linked: Typically these policies provide a lower level of income at outset, which then increases year on year in line with inflation. Often criticised as it can take a long time to reach the level available through a conventional alternative.

Investment-linked: Often referred to as ‘third way’ products, these can provide the possibility of achieving real growth above the rate of inflation through investment in equity based funds. By setting an assumed future growth level, policyholders can have an element of control over the initial level of income.

Fixed-term/deferred: The former offer a set level of income for a set period of time, with a maturity sum often paid at the end of the plan period which can then be used to provide an alternative source of income. Deferred annuities quite simply secure income at a set level available today, but payments do not commence until a defined point in the future.