So you’ve built up a reasonable private pension fund throughout your working life and now you’re looking to finish work and retire. Your pension fund provider has sent through a 60 page document for you to read through and make one of the most important decisions of your life. Which is the best way to convert your pension fund into an income?
One of the most traditional and popular ways of converting your pension fund into an income is to buy an annuity. They are simple to understand in so much as you make a once in a lifetime decision which you then have to live with forever. Importantly though, it removes any kind of investment risk. You give your £100,000.00 pension fund away to a respectable annuity provider and they promise to give you an income for the rest of your life. You can get an idea of your potential income using this annuity calculator.
The annuity provider knows that if they take in a big enough pool of retiring people’s pension funds and pay them an annuity, the people who die prematurely will more than offset the people who live longer than the average life expectancy. Their business is annuity provision and it all comes down to their mortality tables hidden in the depths of their actuarial departments.
But what style of annuity do you buy? Adding “whistles and bells” to your annuity style always reduces the initial amount of income you receive. If you’re married you might want to include some provision for your spouse if you die before them. Its money wasted if they then die before you. You might choose the most expensive option of an annuity which increases each year so you r annuity value is not eroded over time by inflation but you have worked out that you need to be drawing on your annuity for at least 15 years to have had what a non-escalating annuity would have given you.
A recent improvement to the annuity market is the medically underwritten annuity. If you smoke, drink, have high blood pressure, high cholesterol, a touch of diabetes and recovering from a recent heart attack your statistical chances of outliving a fit and healthy pensioner are low. As long as you have any or all of these conditions a number of annuity providers will now give you a higher initial income.
It is still not the standard default option but your pension provider should make you fully aware of the Open Market Option. Just because you built up your pension fund with ABC Pension plc doesn’t mean that you have to buy your annuity from them. Once you’ve settled on a style of annuity you should shop around to see which annuity company will give you the highest income in exchange for you pension fund.
However, even as an independent financial adviser it is difficult to judge which style is best for you. We are no different to you in knowing that if we had one vital piece of information the whole job of choosing the right type of annuity would be simple. How long are you going to live for? A thorough examination of your current financial position, medically history and tolerance to investment risk are always required before an informed opinion is given.
Fortunately, potential retirees who have built up pension funds are beginning to seek advice and consider their options. Even the ones which aren’t mentioned by your pension company (usually because they don’t offer these products themselves). There a now a number of alternatives to buying an annuity and depending on your circumstances these can prove much more suitable. Temporary Annuities, Unsecured Pension, Phased Retirement, Unit Linked Annuities, Third Way Annuities and so on. I would suspect that there will be even weirder and wonderful ways of drawing an income from you pension fund in the future.
If you are concerned about which style of annuity is best for you, or wonder if you are more suited to one of the alternatives then you should contact an independent financial adviser who are best placed to advise you correctly.