What you need to know about annuities and income drawdown

When it comes to retirement, if you are not dependent on the State Pension then you're likely to choose either an annuity or pension drawdown. This will probably remain true even with the new pension rules that take effect in April 2015, although new products may emerge to offer new choices. At least one such product already exists, which we'll look at soon.

The most appropriate product depends on each individual's personal circumstances, and the specific qualities of each will help make the right decision. The following tables highlight the key pros and cons of annuities and income drawdown:

Annuities 

  • Guaranteed income for life
  • Typically irreversible
  • You 'lock in' at point of purchase, so if rates decrease your payments will remain the same rather than decreasing
  • You 'lock in' at point of purchase, so if rates increase in the future your payments will remain the same rather than increasing
  • Certain lifestyle factors and health conditions can qualify for an enhanced annuity, which pay a higher sum than a standard annuity
  • If your annuity is not index linked the value of the payments could be eroded by inflation over time
  • Payments continue even if the value of the fund has been exceeded
  • If you die earlier than expected you may not receive the full value of your fund
  • Can be index linked so payments are not eroded by inflation
  • If your annuity does not have death benefits and you die before depleting the value of the fund, the remaining money will stay with the provider instead of being returned to your estate
  • Joint life annuities allow payments to continue to a beneficiary such as your spouse, up to 100% of the value of your payments

 

  • Fixed-term annuities release you after a specific period e.g. 5 years. You are then able to choose another product, such as a new annuity or income drawdown
 

 

Income Drawdown

  • Fund remains invested so its value could increase
  • Fund value may go down as well as up, and past investment performance is not guaranteed.
  • Can be passed on to beneficiaries
  • After April tax relief will only apply to £10,000, not the current £40,000 except for people already in capped drawdown
  • Fund can be passed to a beneficiary and is excluded from inheritance tax
  • Fund will need to be managed through your retirement
  • Changes to the death tax remove the 55% tax on death. Some beneficiaries will pay no tax at all, others will pay their marginal rate on withdrawals
  • There is a risk of spending too much too quickly and depleting the fund
  • Annuity can be purchased at any time

 

  • New pension rules will remove limit on how much income can be taken in drawdown

 

  • You can vary your income if needed

 

 

These tables are not exhaustive, and as already mentioned, there is at least one hybrid product already on the market. This product keeps the fund invested like a drawdown plan but also provides a guaranteed income like an annuity. This means that if the value of the fund decreases, your income does not. However, you feel the benefit of an increase in your fund value as your income will go up - so you enjoy increases but are protected from falls. The drawbacks to this product are that it has higher charges, which means you will not receive the full rate of growth, and the real value of the fund may be lower than the income it provides if the market drops. This could be a problem if you want to remove your money from the product, as you may not receive an equal or higher income elsewhere.

Which option are you likely to take, or are you already taking a retirement income? Let us know in the comments below.

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The details provided in this article are for general information only and are in no way deemed to be financial advice. All of the material is correct as of the publication date, but could be out-of-date by the time you read the article. For our latest information and news, please see our articles section: https://www.portafina.co.uk/whats-new

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