Helen Morrissey, head of retirement analysis, Hargreaves Lansdown: “The inflation beast may have been tamed but that doesn’t mean it shouldn’t be a key factor in your retirement income planning. You could be retired for twenty years or more and even the most benign of inflationary environments can nibble away at your purchasing power over that time. A period of double-digit inflation as we have seen recently can bite huge chunks out of your plans, so it pays to be prepared.
If you are in the market for an annuity, then you need to bear this in mind. The market has enjoyed something of a revival in recent years, with rising interest rates contributing to higher incomes, meaning annuities are delivering great value.
The most recent data from HL’s annuity search engine shows a 65-year-old with a £100,000 pension can currently get up to £7,222 per year from a single life level annuity with a five-year guarantee. This is more than £2,000 more per year than they would have got just three years ago. However, the level of income you get from such an annuity doesn’t change over time and what may seem like a healthy income today may feel decidedly lacklustre in twenty years’ time.
You can of course get annuities that rise in line with inflation. An RPI linked annuity is currently delivering up to £4,540 per year for the 65-year-old with their £100,000 pension. One that rises by 3% per year will start you off at up to £5,157. Both are far lower than you would get with a level annuity, but the longer you live, the more you’ll value any kind of inflation link.
When deciding what your best option is, you will need to try and work out how long it will take for the income of your escalating annuities to catch up with the starting income from the level one. If the escalating one rises at 3% per year, then it would take 12 years to catch up. So, in other words, you would be 77 before you got the same income. It would also take around 21 years before you had taken the same overall amount of income (approx. £144,000) that you would have taken from the level product.
If you opted for the RPI-linked product and it rose at 5% per year, then it would take you ten years to make up lost ground and around 20 years before you would have caught up in drawing the same amount of income overall as you would have got from the level product. Of course, if RPI inflation were higher you would make up ground more quickly, but lower inflation means it could take you longer. You need to think carefully about how long you are likely to live to come to the best decision for you.
There are other options that are also worth considering. You don’t have to annuitise your entire pension at once. Instead, you could annuitise in slices over time securing guaranteed income as you need it while keeping the rest invested where it can hopefully grow. This way you also have the benefit of securing higher annuity rates as you age and if you develop a condition where you qualify for an enhanced annuity then you could get a further boost in income that can help you fight the impact of inflation over time. Shopping around for the best rates is vital in getting the best deal for your retirement.”
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