Whilst Annuity rates were falling the decision when to buy an Annuity was simple, most people did so as quickly as possible. But with rates starting to rise, albeit slowly, is there a case for delaying your Annuity purchase in the hope of a higher income?
Let’s start by looking at what’s happened to Annuity rates so far in 2013.
During the first few months of the year rates stayed pretty static. But over the past couple of months, as gilt yields have risen to their highest level for nearly two years, Annuity rates have also started to slowly pick up.
As a general guide every 1% increase in gilt yields pushes up Annuity rates by between 8% and 10%. But as with petrol prices there is a lag. Whilst it often seems when gilt yields fall, Annuity rates drop almost immediately, only rise more slowly, when gilt yields increase.
So, with Annuity rates rising over the past couple of months, should you delay your purchase in the hope of landing a higher Annuity rate?
The natural temptation is to say “yes”. But we believe there are some very good reasons why delaying your Annuity purchase can often be the wrong thing to do.
Beware falling fund values
Delaying your Annuity purchase might sound attractive, but how will your pension fund perform as you wait for rates to rise?
If you are invested in assets which could fluctuate in value, such as equities (stocks and shares) or corporate bonds, the value of your pension fund could easily fall, wiping out any gain from an increase in Annuity rates.
To protect against the possibility of a fall in the value of your pension, many people move to a Cash based fund. But, these are currently producing very poor returns; the average Cash fund has returned less than 1% over the past year. Far less than the effective return provided by an Annuity, even after tax has been deducted from the income.
The need for income
If you are stopping work and retiring, it is likely you will need to the income from your pension to meet the day to day cost of living.
You may therefore have no choice but to take the Annuity to help you meet your bills.
However, if you are happy to accept the other downsides of deferring your Annuity, but still need to replace your lost income, you could consider other retirement income options, which don’t tie you into today’s Annuity rates. These include:
Just because you want to delay buying an Annuity, there is no reason why you need to delay taking your retirement income.
Annuity rates might start to fall again
The recent rise in Annuity rates is only likely to be sustained if gilt yields remain at their current levels. Should yields start to fall again, perhaps on the back of the improved economic data we have seen recently, or an expansion of the Bank of England’s Quantitative Easing programme, yields and therefore Annuity rates could start to fall.
Furthermore, Annuity rates are also affected by long-term interest rates and these are showing no sign of increasing. Whilst Annuity providers are still nervously eying up Solvency II, a piece of EU legislation, which could push Annuity rates down even further.
The cost of delay
Whilst delaying might mean you can take advantage of a higher Annuity rate, assuming of course they continue to rise, you also need to consider the ‘lost income’.
To truly benefit from a rise in Annuity rates, the additional income you receive, needs to at least make up for the income you have ‘lost’ during your period of deferral. There is no point waiting to get a higher Annuity rate, only to receive less money back in total over the rest of your life.
So, should you delay your Annuity purchase?
We believe there are some significant dangers to delaying your Annuity purchase.
Not only could rates start to fall again, the value of your pension pot could also drop if markets move against you. Remember too that any increase in rates needs to make up for the income ‘lost’ whilst you wait to buy.
If however you do decide to delay, there’s no reason why you should miss out on the income from your pension, there are plenty of options other than an Annuity.
Do you need help deciding when to buy your Annuity?
If you are approaching retirement and would like advice on your options, including the best time to buy an Annuity, call one of our IFAs today on 0115 933 8433, alternatively enquire online or email firstname.lastname@example.org
The small print (so important we put it in bold!)
Income Drawdown / Phased Retirement are only generally suitable for larger fund sizes and for individuals that are prepared to accept the risk of income decreasing and / or erosion of the fund value due to the investment risk involved.
Investment Linked Annuities involve an element or risk and the income from them can decrease depending on market conditions.