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Annuities explained

Many people don’t realise that they have the right to shop around for a different annuity provider, to provide them a pension income for their retirement. By doing so, you could earn a better annuity rate for your pension fund. This is known as an open market option and it can make a significant difference to your retirement income. Before you decide which annuity to choose, it pays to know what they are, how they work, and why it makes good sense to shop around. That’s where this quick guide comes in, providing the information you need to consider before securing your annuity.

Definition of an annuity

An annuity is a contract which guarantees to pay you an income for the rest of your life. Buying an annuity involves using the funds you’ve built up in your pension plan. The bigger the pot of money in your pension, the bigger your annuity income can be.

Buying an annuity

You can buy an annuity if you are aged 55. However, you don’t have to buy one as soon as you retire – but you can also purchase an annuity before you finish work.

You also have the option to take up to 25% of your pension fund as a tax free lump sum, before you purchase your annuity.


There are a few alternatives which you could consider if you don’t want to buy an annuity straight away. We can give you more details. This may be of interest if you want to keep some of your pension funds invested, or if you are nearing age 75 and would like to look at the options introduced by recent legislation.

In addition, if you have a pension fund of more than £100,000 we do suggest that you speak to us. So please fill out a form to request a call back.

Types of annuity

Types of annuity

When it comes to buying an annuity, you can usually choose from the following options. Generally, the more options in your annuity, the lower your starting income will be. You need to understand the different types of annuities available to ensure maximising your annuity rate. All of the ones available to you are listed in your free report, which will be sent to you after completing our online 'request your free report' form. In the meantime, the following information is designed to provide a better basic understanding of the types of annuities available – and your options. Please note that these descriptions are not definitive; WealthMe does not provide advice on the suitability of products and investments, but if you require further assistance then please click here for more information on how we may be able to assist you.

Single or joint life

If you want your spouse or partner to receive an annuity income when you die, you should consider a joint life annuity. On your death, they will receive an income for the rest of their lives.

Joint Life

A joint life annuity continues to pay out after one partner dies. This applies to married couples and civil partnerships and even, in the case of some providers, unmarried couples. These are a good idea but come at a cost. The benefit can be paid immediately upon death, (‘overlap’), or at the end of the guaranteed period (‘without overlap’). An annuity with an overlap may result in lower income levels.

Conventional and Investment Linked

Conventional annuities provide income fixed for life. The vast majority of retirees choose this option. Investment linked annuities depend on investments and the income will therefore increase or decrease depending on the performance of the underlying investment.

Level or escalating

A level annuity provides you with the same income every year for the rest of your life. To protect your income from inflation, you could consider an escalating annuity, which increases at a fixed rate each year. This rate of increase is usually 3% or 5%, or linked to the Retail Price Index (RPI). An escalating annuity is worth considering but the protection comes at a cost.


If you wish, you can guarantee your annuity for a fixed period to continue to pay your spouse or nominated beneficiary if you die before the guarantee period ends. This normally comes at a small cost, so you should get a quotation and ensure you understand it before you decide.

Enhanced/Impaired life annuities

If you have health issues or you are a smoker, you could be eligible for an enhanced (impaired life) annuity. This often pays you a higher income as the annuity provider will anticipate your life expectancy to be lower.

Other products

Many other types of products are available such as Variable, Capped and Flexible Drawdown, Fixed Term and Phased Drawdown, all generally more complicated versions of those listed above.


Common Definitions

Annuity Provider

The insurance company that issues the annuity contract.

Annuity Income

The total amount of money received from the annuity each year.


A contract between an Annuity Provider and a pension scheme member, under which the pension scheme member hands over all or part of their pension fund in return for a regular payment for the remainder of their life.


The person receiving the income from an annuity. See Primary Annuitant.


See Triviality.


A person who is financially dependent on the annuitant at the beginning of the annuity.

Enhanced Annuity

A type of annuity that gives the annuitant a higher income because of a medical or lifestyle reason that shortens life expectancy, for example smoking, drinking, medical history or lifestyle.

Escalation Rate

The annual rate of increase of the annuity – a fixed percentage or linked to inflation.


See Payment Frequency.

Guaranteed Annuity Rate

A minimum rate by which the pension fund can be converted to annuity income, fixed in the pension product terms.

Guaranteed Period

A period that can be chosen up to ten years from the start of the annuity, within which if the annuitant dies, payments will continue until the end of the guaranteed period.

Impaired Annuity

See Enhanced Annuity.

In Advance/In Arrears

The payment of the annuity: ‘in advance’ the first payment is at made at the start of the annuity and at the start of each Payment Period thereafter; ‘in arrears’ no payment is made at the start of the annuity, but at the end of each payment period.

Income Drawdown (or Unsecured Pension)

An alternative to buying an annuity, in which income is taken directly from the pension fund. This is not offered by our annuity specialist partners, but we can refer you to a specialist adviser if you are interested.


The general increase in prices over time. (See Retail Price Index).

Internal Vesting

Where an individual purchases their annuity from the same insurance company who provided their pension fund and does not exercise their Open Market Option.

Investment Linked Annuity

See Unit Linked Annuity.

Joint Life Annuity

Transfers annuity income to a named dependent in the event of the death of the annuity buyer. The buyer chooses whether income is paid to a dependent, at the outset of the annuity.

Level Income

Payments remain unchanged throughout the annuity.

Lifetime Allowance

The limit on the value of retirement benefits that may be drawn from pension schemes before tax penalties apply.

Lump Sum

See Pension Commencement Lump Sum (PCLS)

Open Market Option (Market Option)

The legal right to take a pension fund and purchase an annuity from an insurance company other than the one the pension fund is with. It enables you to access better annuity rates using all the specialist annuity providers.

Payment Frequency

The number of times in a year that annuity payments are made – typically 12, 6, 3 or 1 month.

Pension Commencement Lump Sum

The tax-free cash amount available from a pension fund at the start of the annuity – typically limited to 25% of the pension fund.

Pension Fund or Pension Pot

The total amount accumulated in your pension plan.

Pension Plan

The existing pension saving arrangement with an insurance company (or company scheme).

Pension Provider

The company with whom a pension plan is currently held.

Quotation Guarantee Period

The length of time an annuity provider will hold the annuity quotation unchanged – typically 14 days.

Retail Price Index (RPI)

A measure of the costs of a defined list of typical household expenses. The change in the RPI over time is referred to as inflation.

Single Life Annuity

An annuity where the payments cease when the primary annuitant dies, unless a guarantee period has been selected.

Spouse/Dependent’s Annuity

Payments made to the spouse/dependant after the death of the primary annuitant.

Tax Free Lump Sum

See Pension Commencement Lump Sum.


Total funds valued at lower than 1% of the Lifetime Allowance (less than £18,000 in the 2013/14 tax year) may be commuted for a one-off lump sum. You must be at least 60 year of age to take your pension pot as a lump sum. You must be at least 60 years of age to take your pension pot as a lump sum.

You may qualify to take all of your pension pot as a lump sum if:

  • one of your pension pots is worth £2,000 or less

  • your total pension pots under all the schemes you belong to are worth £18,000 or less. If your pension pot is £2,000 or less there are different rules depending on whether you are a member of a company or public pension scheme, or a personal scheme.

Unit-Linked Annuity

A type of annuity where the level payments vary with the investment performance of the funds in which it is invested. This typically carries a higher risk and is not offered by Annuity Place. We can refer you to a specialist adviser for more information.

Unsecured Pension (USP, Income drawdown)

The pension holder can keep their pension fund invested on retirement, and take income from it instead of purchasing an annuity. This carries an element of risk and is usually recommended for those with a large pension fund or with alternative sources of retirement income.

Value Protection (Capital Protection, Annuity Protection)

Guarantees that the pension fund (less annuity payments already paid) is paid to a named beneficiary after tax. Generally an option only if death occurs before the age of 75.

With Profits Annuity

Directly links annuity income with the performance of a with-profits fund. Retirement income is linked to an annual bonus rate declared by the annuity provider, rather than a guaranteed lifetime income.

With Proportion/Without Proportion

Relevant to annuity buyers who have chosen to receive their annuity income payments in arrears. ‘With proportion’ means that the final proportionate payment is made to the estate to cover the period between last payment and death. ‘Without proportion’ refers to final annuity payment of the last scheduled payment before death.

Have some questions?

Annuities can be quite complex so you’re bound to have some initial questions. Please refer to our FAQs page by clicking here.

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