You work hard to earn a pension over a lot of years. So, is unlocking pensions income right for everyone? When it comes to retirement it seems there are so many choices people can make as far as pensions are concerned. And it is because of all those choices that it is important to do your homework to get what is right for you. Unlocking pensions income early isn’t to be recommended for everyone. In fact for most people the Financial Services Authority (FSA) strongly suggests not cashing in a pension before actually retiring from work. An independent advisory service can also help you make a decision by use of calculators.
In the UK a person can normally ‘retire’ at aged 55 as far as taking a pension goes, though it is older for state pensions. This means that a pension ‘pot’ has built up over time, so an annuity may be purchased which provides an income over the rest of that individual’s life. What might be surprising to some, however, is there can be big variations among companies offering such annuities.
I knew someone who was coming up to age 60, and was looking to take up his pension. So, he got quotes for an annuity from the company handling his pension, based on a level amount throughout the term to be paid in advance, monthly, with a five year guarantee.
Annuities come in different forms, with some coming with a rise of say 3% rise each year, or rising at the rate of inflation. These start out at a lower figure than level annuities to take account of the fact they will increase year by year.
Now, you do not have to take out an annuity with the company your pension is with. Under the ‘Open Market Option’ you can take your pension fund at retirement and shop around to see if someone else can offer you a higher retirement income. Yet, surprisingly, I’ve read some estimates that show fewer than 4 in 10 shop around for the best annuity, they simply take the annuity on offer from their pension provider. And once the decision is taken, apart from a short cooling off period, that choice has to be kept with for the rest of your life. This is why it is so important to do your homework before making any final decision.
Back to my friend. Once he received the figures for the type of annuity he was looking for from his own pension company he started to shop around to see what better rates he could obtain. As it happened, he was able to get an annuity elsewhere at a very similar figure to the one he had been quoted. But, then he read about ‘enhanced annuities’ where some companies will pay a higher rate for someone suffering from certain illnesses, or conditions. Not all pension companies do these kinds of annuities, including the one he is with. And some insurance companies only do enhanced annuities. See how complicated it can get?
Anyway, he decided to go through a well known Asset Management company who will look for the best rates which are available. Their flat, standard service does not include giving personal financial advice however, that comes as an extra. They will look through their panel of annuity providers and come back with the top payer at that moment. They just need to know how much the pension fund is worth, and whether a tax free lump sum (of up to 25%) is to be taken, along with one or two other details.
Now, some companies who offer enhanced annuities will do them for several health related problems, including high blood pressure, and high cholesterol. Most will offer higher rates for anyone who is a smoker, and has smoked, say for the past ten years. In other words they will offer higher payments to someone whose health conditions might cut short their life expectancy. So, for the smoker, statistically his life expectancy is lower than someone who doesn’t smoke. The same is true for those who suffer certain illnesses. And that is why some companies are prepared to pay a higher rate for the time the person is alive.
In my friend’s case, he suffers from high blood pressure, and high cholesterol. After completing a form with his medical details on it, he sent it to the Asset Management company who came back with a quote from a company which only provides enhanced annuities, and that quote was 29% higher than for the best standard annuity he could have taken.
Taking into account that all payments are counted as income for tax purposes, that means that even after paying 20% income tax on his monthly payments he will still come out with more than the gross figure he would have been paid had he taken up his best quote for a ‘non-enhanced’ annuity.
I want to emphasize I am not an expert in these matters. I am here relating the personal experiences of someone I know who benefited from shopping around for his annuity. It is always best to seek professional advice, preferably through an Independent Financial Advisor, when seeking to turn your pension fund into an annuity. This applies equally whether you choose to unlock your pensions income early, or wait until you retire. Getting a tax-free lump sum can be a way to reduce your debts in the short term, but do remember that by cashing your pension in early you are likely to lose out in how much you will receive monthly if left alone for a longer period.
