The cost of delay.

Pension Annuities
If youre approaching retirement, deciding when to convert your pension fund to an income can feel like a step into the unknown. Should you take a retirement income straight away? Or is waiting a few years and hoping you can get a higher retirement income the better option?

The cost of delay1

If you are considering delaying your annuity purchase, you should be aware it could take years to recoup the income lost over the intervening period if your fund value remains flat. For example, a 65-year-old man can buy a yearly income of 2,856 with a pension fund of 50,000, but a 67-yearold man in the same situation could obtain a better annual income of 3,036. If the younger man delays buying an annuity for two years in an attempt to gain the higher income, with all other factors remaining unchanged, he will have given up a total of 5,712 (2,856 for each of the two years delay) in order to boost his annual income by 180 (the difference between a 65- and 67-year-old). At that rate, it will take him 32 years to recoup the income he gave up by deferring his income for two years. If his pension fund grows during the two year delay, then he will recoup this income more quickly.

What influences your annuity?

There are a number of factors which influence the income you will receive from an annuity. The value of your pension fund is one crucial aspect. As is the annuity rate used to calculate the income you receive. So, if you delay buying an annuity and your pension fund increases in value, but the annuity rate falls during that period, the income you get may be less than you would have initially received. Or the opposite can happen.

Falling annuity rates

Annuity rates have been on a general downward trend for many years. This change is due to many reasons, but is largely driven by the fact that people, on average, are living longer than they used to. There will continue to be peaks and troughs in annuity rates due to volatility in interest rates and gilt yields (which underpin many annuities). But the downward trend is likely to continue, driven by continuing increases in longevity and some new European legislation. For example, the Gender Equality directive means men and women will have to be offered the same annuity rates in future. Currently, women get less each year as, on average, they live longer. The change will see mens rates fall by up to 5% - while womens rates increase marginally. Solvency II is another piece of European legislation which means insurers will need to hold much greater capital reserves when they sell annuities. The need to hold these reserves means rates will fall. And the Bank of Englands recent decision to inject a further 75 billion into the economy by buying gilts could also push annuity rates down further.

When should I buy an annuity?

So when is the right time to buy an annuity? The choice will depend on your individual circumstances sources of income, income needs, size of pension pot, attitude to risk and health. However, it is difficult to try to second-guess the market, so generally you should buy an annuity when you need it. If you believe investment markets are going to rise over the medium and long-term then there are annuities where your funds are linked to investments, and so your income can increase if investments grow. However, investments can go down as well as up.

All figures from MoneyAdviceService comparison annuity tables, October 2011. Annuities for male, single life, level, for age specified
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