Are annuities a good option in 2023?
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What is the best way to generate a reliable income in retirement? Broadly speaking, you can use your pension savings in two ways – buy an annuity, or keep the money invested and take gradual withdrawals when needed (income drawdown).
In 2023, annuities have offered the best incomes in around 14 years. This is mainly because the UK interest rate landscape has changed (explained below). Yet should you buy one?
In this article, our Grantham financial planners explain how annuities work, why they are more attractive in 2023 and how they can feature in a wider retirement plan.
We hope this content is helpful. If you want to discuss your financial plan with us, please get in touch to arrange a no-obligation financial consultation, at our expense:
01476 855 585
info@casfin.co.uk
What are annuities?
An annuity is a type of financial product that offers a guaranteed income in retirement. It is usually provided by an insurance company and is purchased using pension savings.
Different types of annuities exist to serve different needs. For instance, a “level annuity” will provide the same income throughout its policy term. An “inflation-linked annuity”, by contrast, will raise the income each year in line with an official inflation measure (e.g. the Consumer Price Index, or CPI).
A level annuity will often pay a higher income at the beginning. Yet over time, the value of the income will erode as the cost of living goes up. Inflation-linked annuities preserve the real value of your income, but will usually be more expensive to buy.
Some annuities will just pay for a fixed period (e.g. 10 years). Others, however, will pay out until you die. A joint-life annuity will also continue paying benefits to your spouse or partner if you die.
Your pension provider may offer some annuity options. However, it is always worth shopping around if you are interested in an annuity. There may be better options elsewhere on the market. A financial adviser can help you conduct a thorough search.
Why are annuity rates better in 2023?
Just like other “products”, annuities can offer a better or worse deal, at a given time, depending on market conditions.
Right now, for instance, used car prices are on the rise. This is partly due to an effort to decarbonise road travel (the 2030 ban on petrol and diesel cars is just 80 months away) and also due to stifled production of new cars because of Covid lockdowns and supply-chain issues.
What drives the annuity market? Largely, it is interest rates. As a general rule, the higher the UK base rate (Bank of England rate), the better annuity incomes tend to be.
This is because insurance companies offering annuities tend to invest money in UK government bonds (gilts). Newly-issued gilts offer better returns to investors when interest rates are higher.
These higher returns can then be passed down by insurance companies to customers in the form of higher incomes on new annuity products.
In 2023, the UK base rate is the highest since the 2008 Financial Crisis – currently standing at 4.5%. The central bank has pushed it up primarily to try and control inflation.
Annuity rates, in turn, have also risen. In February 2023, the average annuity now offers £3,113 compared to £2,430 in March 2022 (up £683).
Should I buy an annuity in 2023?
An annuity can be a great option for some people in retirement, yet the product is not right for everyone. Your personal financial goals and circumstances play a big role in determining suitability.
A big factor is your expected lifespan. If you use £50,000 from your pension to buy a £3,113 per-year annuity, for instance, then you need to survive the purchase by 16 years to start getting a return on your investment.
Of course, your partner may continue to receive benefits if you die before you get a return (i.e. by purchasing a joint-life annuity). However, you will also need to factor in your partner’s potential lifespan. Additionally, a joint-life annuity may be more expensive – meaning more time will be needed to get a return on your investment.
You can offset much of this risk by buying a “value protected” annuity. This lets your family receive any remaining initial capital as a death benefit. For instance, suppose you spend £50,000 on an annuity but only receive £30,000 of annuity income before you die. Your family can then receive £20,000 as a death benefit.
Bear in mind that, similar to buying an insurance policy, lifestyle choices (e.g. smoking), family medical history, age and other factors play a key role in determining your annuity options. For instance, if you have poor health, then you might consider different impaired or enhanced annuities with a financial adviser. These may pay better rates than other annuities.
It is important not to rush into buying an annuity. Once you make the purchase, you cannot return the product. You need to be confident that you are making the right decision.
Here at Castlegate, our Lincolnshire financial planners are available to help you explore your retirement and pension options.
Conclusion & invitation
If you are interested in discussing your own financial plan or investment strategy with us, please get in touch to arrange a no-commitment financial consultation at our expense:
01476 855 585
info@casfin.co.uk
