Laith Khalaf, head of investment analysis at AJ Bell, comments: “Annuity rates are looking much juicier than they were thanks to rising bond yields, but retiring pension savers don’t seem to be taking much notice. When George Osborne introduced the pension freedoms a decade ago, the proportion of people buying an annuity at retirement plummeted from 90% to around 10%. It has remained close to that level ever since. The number of people accessing their pension for the first time via an annuity rose by 46%, from 60,383 in 2020/21 to 88,430 in 2024/25, according to the FCA. But that big bump sounds more impressive than it is, because over the same period the number of people accessing their pension overall rose by 61%, from 596,080 to 961,575. In other words, annuity sales were behind the curve. The upshot is that the latest figures show 9.2% of savers accessing their pension pot opting for an annuity in 2024/25, down from 10.1% in 2020/21.
“What’s remarkable is this has happened despite a phenomenal increase in annuity rates. A £100,000 pension pot will now buy a 65 year old a level annuity of around £7,600 a year, according to MoneyHelper. That compares with somewhere in the region of £5,000 five years ago. The fact rapidly rising rates haven’t precipitated a stampede into annuities shows pension savers aren’t price sensitive when it comes to choosing their retirement path. Annuities were never popular, and it now appears clear that wasn’t just because rates were so low. There are other factors which explain why rising interest rates haven’t revived the annuity market, and why they remain much less popular than drawdown.
Baked in annuities
“Most people will already be on course to receive annuities, albeit in a different guise. Both the State Pension and Defined Benefit schemes provide pension savers with a secure income for life, just like an annuity. Buying an annuity with a pension pot effectively doubles up on this strategy which may be appropriate for some, but by no means all.
Inflexible friends
“Annuities aren’t flexible. They pay out an income year in, year out, irrespective of whether you need it or not. For many people this won’t fit their retirement income needs. For instance, they may be stepping back from work gradually, or have especially high expenditure in the first few years of retirement as they travel and make the most of their free time. The inflexibility of annuity income also means pension savers can’t manage their tax liabilities easily if they have income from other sources. There may be years they wish to minimise pension income to avoid being pushed up into a higher tax bracket. They can do this with a drawdown plan, but not with an annuity.
Inflation protection
“Protecting an annuity from inflation comes at a hefty cost. Understandably so with payments over such a long time frame. Whereas £100,000 would buy you a level income (staying the same every year) of around £7,600 a year, if you wanted the income to rise in line with inflation, that would fall to a starting income of about £5,000, according to MoneyHelper. Given you can get a 4% yield on an equity income fund while also retaining control of your capital, and some inflation protection from stock market growth over the long term, that swings the pendulum in favour of a drawdown plan, though of course, remaining invested comes with its own risks attached.
Questionable decision-making
“Full encashments are the most widespread means of withdrawal for pension savers, counting by pension plans rather than pension assets. While it is perfectly understandable that people with smaller pension pots withdraw all their pension in one go, the latest FCA data shows 7.2% of people with pensions worth more than £50,000 went down this route. Not only does this potentially mean damaging the sustainability of retirement plans, it also likely spells a hefty tax bill as that withdrawal is treated as income in the tax year it is taken out.
The bus problem
“Finally, and this is a big one, people really don’t like annuities. Perhaps this is because some don’t understand them. Others might underestimate their chances of living to a ripe old age and still getting payments from their annuity provider, even at age 100. But mostly it’s probably the case people don’t like the idea that if they get run over by a bus, their income stops and all those years of saving into a pension were for nothing. There are of course protections you can build into an annuity, such as a guarantee period or a spouse’s pension, but these also reduce the starting income you get, and hence soften the dazzle of the high headline rates available on the market at the moment.
In summary…
“There was a time 90% of pension savers bought an annuity with their pension. But that’s because the rules around drawdown were extremely restrictive, rather than because annuities were perceived to be appealing. Those rules were washed away by George Osborne’s pension freedoms, and as a result, annuities aren’t likely to see such glory days again, even if rates stay high. Nonetheless they are still an important option for savers to have at retirement. It’s also worth keeping in mind that you don’t have to choose an annuity or drawdown, you can use some of your pension for each. This mix and match approach means you can secure the income you absolutely need from an annuity, and also keep some invested for growth in a drawdown plan which provides a more variable, flexible income. In a way, this is the best of both worlds.”
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