{"id":345118,"date":"2020-11-06T09:50:56","date_gmt":"2020-11-06T09:50:56","guid":{"rendered":"https:\/\/www.finder.com\/uk\/?p=345118"},"modified":"2026-02-17T11:08:28","modified_gmt":"2026-02-17T11:08:28","slug":"what-are-annuities","status":"publish","type":"post","link":"https:\/\/www.finder.com\/uk\/pensions\/what-are-annuities","title":{"rendered":"What are annuities?"},"content":{"rendered":"

Annuities are one way of cashing in a defined contribution pension pot<\/a>. You purchase an annuity from an insurance provider to give you an income, for life or for a fixed term. We explain everything you need to know about annuities, from how much you\u2019re likely to get to whether you\u2019ll pay tax on annuity income.<\/p>

What is an annuity?<\/h3>

An annuity is an insurance product that offers an annual income \u2013 either for the rest of your life or for a fixed period \u2013 in exchange for a lump sum from your defined contribution pension savings. The insurer is hoping that it doesn\u2019t end up paying out more than it takes from you in a lump sum, while you are hoping you live long enough that you receive more in income than you originally paid. You\u2019re effectively betting against one another. This affects the annuity rate the provider will offer you.<\/p>

What is an annuity rate?<\/h3>

An annuity rate is the amount of your total pension pot that the provider will pay out each year. Say you have \u00a3250,000 saved and you get a rate of 5%, you\u2019ll get an annual income of \u00a312,500 every year until you die.<\/p>

What is a guaranteed annuity rate?<\/h4>

A guaranteed annuity rate (GAR) is one that was set in the terms and conditions of your pension policy when you took the policy out. Annuity rates in the 1980s and 1990s were higher than they are today. If you started paying into an annuity back then, and have a GAR, you\u2019ll almost certainly receive a higher rate than you would by shopping around among providers today. In some cases, GARs can be double today\u2019s rates.<\/p>

How much income will I get from an annuity?<\/h3>

We\u2019d love to be able to give a categorical answer to this question. But, in reality, it depends on a number of factors. These include:<\/p>

  • The size of the pension pot that you use to buy the annuity<\/li>
  • Annuity rates at the time you buy<\/li>
  • Your age, health and lifestyle when you buy your annuity<\/li>
  • How long you want the annuity to last \u2013 for a fixed term or for your lifetime<\/li>
  • Where you expect to live when you retire<\/li>
  • Which annuity type, income options and features you choose<\/li>
  • Whether your pension provider offers a guaranteed annuity rate<\/li><\/ul>

    Does an annuity pay out an income as long as I live?<\/h3>

    It depends on whether you opt for a lifetime or fixed-term annuity.<\/p>

    • Lifetime annuities, as the name suggests, pay out an income for the rest of your life \u2013 no matter how long you live.<\/li>
    • Fixed-term annuities pay out an income for a pre-defined period; 5 or 10 years is typical. At the end of this period, they may pay out a \u201cmaturity amount\u201d. This lump sum is the money you originally paid, plus any investment growth from it, but minus the income you\u2019ve received so far.<\/li><\/ul>

      Neither is better or worse, they simply serve different purposes. Lifetime annuities give you the certainty of a regular payment for life, and the confidence that you won\u2019t be any worse off if annuity rates fall.<\/p>

      Fixed-term annuities are typically regarded as more flexible, because you can choose what to do with the money you have left once the fixed term ends. For example, you could shop around for a new annuity, or invest it. You carry the risk that annuity rates will fall, potentially leaving you worse off. But, if they rise, you will be able to switch to an annuity that pays more monthly income.<\/p>

      What types of annuity are there?<\/h3>

      There are lots of different types of annuity on the market. Here\u2019s a brief description of the main types:<\/p>

      Level annuity<\/h4>

      The insurer pays out a level amount each year for the remainder of your life. You tend to get a higher rate with these, but inflation will reduce the spending ability of your income over time, so you won\u2019t get as much for your money towards the end.<\/p>

      Escalating annuity<\/h4>

      Escalating annuities pay out a little more each year than the previous year. You can choose for it to rise by a certain percentage or have it rise with inflation, typically linked to the Retail Prices Index. These annuities cost more, but will rise in time.<\/p>

      Single life annuity<\/h4>

      This is the most popular type of annuity. It will only pay out to you, so if you die, that\u2019s it. You can get joint life annuities if you want a partner who might outlive you to keep receiving payments after your death.<\/p>

      Joint life annuity<\/h4>

      This type pays you an income until you die, and then will pay out to your partner until they die. You can choose how much they receive as a percentage of what you received. You tend to get a lower starting rate for this type compared with a single life annuity as the insurance provider could end up paying more in the long run.<\/p>

      Enhanced annuity<\/h4>

      An enhanced annuity pays a higher income than you would otherwise receive because of factors that mean your life expectancy is shorter than average. These can include medication conditions, or lifestyle factors such as smoking or obesity.<\/p>

      Value-protected annuity<\/h4>

      If you die before receiving the full value of your annuity, a lump sum is paid to your beneficiaries (or your estate). The lump sum is normally the difference between the amount you paid for your annuity and the amount you received in income before you died.<\/p>

      Guaranteed annuity<\/h4>

      This isn\u2019t so much a type of an annuity as it is an add-on to an existing annuity. You can have a guaranteed period on your annuity which means it will pay out for a certain number of years even if you die. So if you take one out today with a guarantee of 10 years, and a year from now you die, it would continue to pay out for an additional 9 years.<\/p>