When you decide that you wish to retire and start withdrawing from your UK pension fund, you can generally take an initial lump sum and then the balance is normally used to provide a regular income for life. Annuities can facilitate this.
Annuities are simply a one-off transaction in which an individual’s entire pension savings are exchanged for a contractual arrangement that guarantees an income for life. They are typically bought from life and pensions companies and have been commonly used in the UK for many years.
There are many types of annuity which will offer different rates of income. Your state of health will be taken into consideration and generally, you should be able to receive a higher rate of income if you are in ill health or suffer from a serious medical condition – this is because the product provider will expect to pay the income for a shorter period.
The annuity income will normally stop when the person who bought the contract dies, but there are some options which will allow for some of the income (or a portion of the pension fund) to be paid to a named beneficiary.
Once purchased, your annuity will provide you with a regular income for the rest of your life. The level of the income will generally be presented as a percentage of your pension pot – for example, an annuity rate of 5 per cent on a pension pot of 400,000 GBP will provide an income of 20.000 GBP.
What is the purpose of an Annuity?
Many pensions are not designed to supply you with an income during your retirement. The pension is essentially an investment into which you (or your employer) has been contributing over your working life and what is left is a lump sum of capital.
When you decide to retire, you need this lump sum of money to be converted into income, and an annuity is historically the go-to tool for this. New pension freedom rules in the UK have reduced their usage however – as compulsory annuity purchase is no longer a factor and people look at alternative ways of withdrawing an income.
When to use an Annuity
An annuity would be used to fund or partially fund your retirement income.
The UK recently introduced new Pension Freedom rules which have taken away the requirement for those with a UK-based pension to purchase an annuity at age 75.
The UK government has in fact removed all restrictions on when and how those with UK pensions can take their pension benefits after the age of 55, although these restrictions have only been lifted on what are known as defined contribution schemes.
For non-residents, annuity income can be paid to you without tax deduction in the UK. In some countries, all the annuity income will be taxable locally and in some countries, only part of your annuity income may be taxable. We can advise you in this area.
The major benefit of purchasing an annuity is that it provides you with a guaranteed income. Typically, your income will not be impacted by external factors which allows you to plan based on the known income for the rest of your life. If you choose the right annuity, you may also not be affected by inflation as the actual income you receive will be set to rise with inflation, thus ensuring that rises in the cost of living are also more closely met.
If you have health problems then your insurer is likely to offer a higher annuity rate due to your lower life expectancy.
Once you’ve purchased your annuity, there is no turning back. Once your annuity is purchased, the income for the remainder of your life is set in stone.
You also cannot leave anything behind for your loved ones, which means that if you die before you’ve received your full pension, the rest of the pension pot stays with the insurer.
Annuity rates, just like interest rates, fluctuate all the time and are not solely based on your personal situation. Much like with a mortgage, you only have a small window of time to make your decision and if the economic situation is not well set, you could find yourself stuck with a lower annuity rate than if you retired a few years earlier/later.
Is Annuity Purchase Compulsory?
In the UK, there is no longer any compulsory annuity purchase at the age of 75. This was removed by the current government in 2015.
Expats can still opt to purchase an annuity but there are almost certainly more appropriate options available for you.
Can Expats Use An Annuity?
Annuities can be purchased by anybody with a personal pension or a defined contribution workplace pension. With other types of pensions, such as defined benefit or final salary, your income is paid directly to you and as such there’s no need to purchase an annuity.
Expats abroad can still convert a UK pension fund to an annuity in the UK but not all pension companies can or will do this. Expats may have difficulty getting in access to enhanced annuity rates as access is needed to your medical records.
Not all annuity companies can pay your income overseas, it may be paid in sterling to a UK account.
In the clear majority of cases, it will be more appropriate for you to transfer your pension overseas by use of an International SIPP, QROPS, or QNUPS for retirement flexibility. These options will allow you to draw your income directly whilst also offering benefits around Inheritance Tax Planning.
Tips on Buying Annuities
Where to Go
Annuities are sold by an insurer who offer you a fixed income for the remainder of your life. The key thing to remember is that once you have made your decision, you do not have the chance to change your mind afterwards. Therefore, it is key that before you make any decisions you seek independent advice to ensure you have looked at all your options.
The Right Time
Up to six months before you are due to retire, you will receive some information from your UK pension provider giving you information about the value of your pension and the annuities available. They should also clearly explain the benefits of shopping around.
A report produced by the FCA in February 2014 highlighted that this was not being communicated enough and that often, people were simply not aware they could shop around.
For those living abroad there are a host of ways in which you could choose to structure your retirement provisions. It is also a far more complex decision to make because you may well have to consider the rules and tax effects in as many as three countries – not only the UK but also the country where you intend to retire (if this is not the UK) and possibly also the country in which you reside at present (in many cases this will be different again).
At Forth Capital we specialist in providing independent retirement planning advice to those already living overseas, and those who are planning and investing towards their planned retirement overseas. Regardless of where you live, we can offer you a personal consultation to discuss your existing retirement planning situation and establish what options you can and should consider.
Contact us today for a Free Consultation.