Should I buy an annuity now? Annuity rates reach 14-year high

Retirees can now make their original pension pot back in 15 years, down from 22 years. We look at whether now is a good time to buy an annuity.

Annuity rates have surged to a 14-year high, giving retirees that convert their pension pots into annuities thousands of pounds of extra income. With rates rising to the highest level seen in 14 years, could now be the time to buy an annuity? 

Rates have risen by 52% this year, thanks to soaring gilt yields, which have been turbo-charged by the Bank of England raising interest rates. Last time annuity rates were at this level was during the 2007-2008 banking crisis.

Back in January the 15-year gilt yield was around 1.15%. It reached 3.5% in mid-September, and following the mini-Budget shot up to nearly 5%, before the Bank’s emergency gilt purchases eased it back down.

The sharp rise in annuity rates means a 65-year-old with a pension pot worth £100,000 who buys an annuity would now receive a guaranteed income of £6,873 a year, according to the pension provider Canada Life. This compares to someone who bought an annuity at the start of 2022, who would only receive an annual income of £4,521.

The break-even point – the point at which you would receive your original pension back through income – has also been reduced by seven years, falling from 22 years to 15 years. 

We look at how annuities work, and whether now is a good time to buy one.

Why are annuity rates rising?

Annuity rates are linked to government bond yields, which have soared this year, particularly since the ‘mini-Budget’ last month. It is arguably one silver lining at a time when homeowners and first-time buyers are worried about mortgage rates and investors have seen huge turmoil on the markets which has impacted their portfolios.

Annuities have previously been out of favour among retirees, with just 10% of pension savings used to buy an annuity in the 2020-2021 tax year. Drawdown is typically seen as more flexible, and better value for most.

But experts say annuities could be poised for a comeback following the rate rises, which could give retirees an income boost. Annuities are an attractive option for those who prefer the security of the guaranteed income they provide.

Is an annuity the right option for me?

If you decide to buy an annuity, it is worth noting that this decision is irreversible and therefore it is important to take the pros and cons of buying an annuity into careful consideration.

 Here are some things to consider:

  • You don’t have to use all of your pension pot to buy an annuity. You could use part of your pension, and access the remainder of the cash via drawdown, which can give you more flexibility over how you take income from your pot.
  • You can choose what age to buy one. You may prefer to use drawdown to begin with, and buy an annuity later. It’s worth noting that the older you are, the better the annuity rate.
  • You can continue to pay into your pension pot after you’ve bought an annuity. But remember, the usual tax rules apply; most savers can contribute up to £40,000 each tax year (known as the annual allowance) and benefit from tax relief. 
  • Annuity income is taxable, so it may affect any potential income-tax bill.
  • Don’t just accept the annuity rate offered to you by your pension provider – always shop around for the best rate. Use the free annuity comparison tool from the government-backed MoneyHelper service to help find the best rate.
  • If you’re unsure about your options, speak to a financial adviser or specialist annuity broker first. The wrong decision could end up being costly. 

Nick Flynn, retirement income director at the pension provider Canada Life, comments: “Clients planning their retirements or looking to de-risk their investment portfolios should take another look at annuities.”

What is an annuity?

An annuity is an insurance product that pays a guaranteed income for life in exchange for your pension pot. 

When you retire, you can choose to swap your nest egg for an annuity, or keep the pension as it is and take cash from when you need – this is known as drawdown.

There are different types of annuities:

  • an enhanced annuity – this pays a higher amount if you are ill or a smoker, factors which the insurer believes will affect your life expectancy
  • an index-linked annuity – this is linked to inflation
  • A ‘joint life’ annuity – this pays an income to a spouse when you die. 
  • fixed-term annuities –  pay an income for a fixed period, say ten years, rather than for your whole life.

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