Annuities Made Simple: What You Need to Know

If you’re approaching retirement, you might be wondering how to make your pension work harder. Annuities could be part of the answer. With rates and average purchase amounts at long-term highs, more people are considering this secure way to fund their retirement. But how do you know if an annuity is right for you? Here’s a straightforward guide.

What Is an Annuity?

An annuity is a financial product you buy using your pension savings. It’s not a separate pension, but a policy that converts part of your pension pot into a guaranteed income. Once purchased, it typically pays you a fixed income for life, giving you peace of mind that essential expenses are covered.

Before buying, you can usually take up to 25% of your pension as a tax-free lump sum. The income you receive depends on your age, health, lifestyle, and the options you choose—like inflation protection or a joint-life annuity for your spouse.

Think of an annuity as a way to “lock in” part of your pension to provide predictable income. Once set up, however, annuities cannot be changed or reversed, so careful planning is essential.

How Does an Annuity Work?

When you buy an annuity, you exchange a portion of your pension savings for regular payments. These payments can be monthly, quarterly, or annually, and usually continue for life. The amount you receive is influenced by:

• Your age: Older purchasers typically receive higher payments.

• Health and lifestyle: Certain health conditions or lifestyle factors may increase payments through enhanced annuities.

• Options you choose: You can select features like inflation protection, guaranteed payment periods, or joint-life coverage for a spouse.

Types of Annuity

• Lifetime Annuity: Pays a guaranteed income for life.

• Fixed-Term Annuity: Provides income for a set period, after which any remaining savings are accessible.

• Joint-Life Annuity: Continues payments to a spouse or partner after death, usually at half or two-thirds of the original rate.

• Enhanced Annuity: Offers higher income if you have certain health conditions or lifestyle factors that may shorten life expectancy.

For example, a 65-year-old couple wanting certainty for both partners might consider a joint-life annuity. Someone with specific health conditions could explore an enhanced annuity to maximise income.

Why Annuities Are Popular Now

• High rates: Strong interest rates and gilt yields mean bigger incomes for new annuities. Average purchase pots now exceed £160,000 in 2025.

• Rising sales: Annuity purchases reached a 10-year high last year, showing growing interest from retirees seeking security.

The Benefits of Annuities

• Security: You can’t outlive the income.

• Simplicity: Easy to budget with predictable payments.

• No investment risk: Payments are fixed and not affected by market swings.

Things to Watch Out For

• Irreversible: Once you buy, you can’t change the annuity.

• Less flexibility: You can’t vary withdrawals or access savings once committed.

• Potentially lower returns: If you live shorter than expected, you may receive less than invested funds could have offered.

• Inflation risk: Fixed payments can lose value over time. Inflation-linked annuities increase gradually but start lower.

Shopping Around Can Pay Off

Only a handful of providers are active in the market. Comparing rates could make a difference of thousands of pounds over retirement. Don’t just accept the first offer – exploring options could boost your annual income significantly.

Secure Your Retirement with Confidence

An annuity can provide a reliable, guaranteed income and peace of mind that your essential expenses are covered. But it also comes with trade-offs, including reduced flexibility and limited access to your savings.

When deciding whether an annuity fits your plan, think about your long-term needs, partner protections, and inflation risk. Annuities suit people who value certainty, but they’re not right for everyone.

That’s why it’s important to consider annuities as part of a broader retirement plan, tailored to your lifestyle, goals, and priorities. At Chesterton House, we guide clients through every option, explaining the pros and cons in plain language and helping them make decisions that fit their unique circumstances.

If you’re thinking about an annuity—or simply want to explore all your retirement income options—our team is here to help. Get in touch with us today to arrange your free telephone conversation with one of our qualified Financial Planners.

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FAQs: Annuities and Retirement Income

What is an annuity and how does it work?

An annuity is a financial product that converts your pension savings into a guaranteed income, usually for life. You can typically take 25% of your pension tax-free, then receive regular payments based on your age, health, and chosen options, such as inflation protection or joint-life coverage.

Should I buy an annuity now?

Annuity rates are near long-term highs, making them attractive for some retirees seeking security. However, whether it’s right for you depends on your income needs, lifestyle, health, and retirement goals. Reviewing options with a financial planner ensures you make a choice that suits your circumstances.

What are the main types of annuity?

The most common types include lifetime annuities (income for life), fixed-term annuities (income for a set period), joint-life annuities (payments continue for a spouse), and enhanced annuities (higher payments for certain health conditions or lifestyle factors). Each has different benefits and considerations.

What are the pros and cons of annuities?

Pros include guaranteed income, predictability, and no investment risk. Cons include reduced flexibility, irreversible commitment, potentially lower returns than investments, and inflation risk. Choosing the right annuity depends on your personal retirement goals and financial priorities.

Can I access my pension after buying an annuity?

No. Once an annuity is purchased, you cannot access the pension savings used to buy it. That’s why it’s important to plan carefully and consider whether you need flexibility for unexpected expenses or future opportunities.

How can I get the best annuity rate?

Rates vary between providers, so shopping around is essential. Comparing offers can significantly increase your income. Working with a financial planner helps ensure you explore all available options and find the annuity that best suits your needs and lifestyle.

Who should consider an annuity?

Annuities are suitable for retirees seeking predictable, guaranteed income, especially those who value certainty and want to protect themselves and their partners. They may not be ideal for those prioritising flexibility or higher potential investment returns.

Are annuity payments taxable?

Yes. Income from an annuity is treated as pension income for tax purposes. This means it’s subject to income tax at your marginal rate. However, the tax-free lump sum you take before purchasing an annuity is not taxable.

What is an enhanced annuity and who qualifies?

An enhanced annuity offers higher income for people with health conditions or lifestyle factors that may reduce life expectancy, such as heart issues, diabetes, or heavy smoking. Providers assess individual circumstances to determine eligibility and payment levels.

How does inflation affect annuities?

Level annuities pay a fixed amount, which can lose value over time due to inflation. Inflation-linked annuities start with lower payments but increase annually, helping maintain purchasing power in later years.

Can I have a joint-life annuity with my spouse?

Yes. A joint-life annuity continues payments to a surviving spouse or partner, usually at half or two-thirds of the original amount. This can provide financial security for couples, but it slightly reduces the initial income compared to a single-life annuity.

What happens to my pension if I die early after buying an annuity?

It depends on the type of annuity. Some annuities include a guaranteed period or joint-life option, ensuring payments continue to a spouse or nominated beneficiary. Without these options, the annuity usually stops on death.