Savers look to pension annuities as rates soar

When Stewart Langston turns 56 this year, he will retire from the National Health Service alongside his wife Kay — five years earlier than some of their peers and over a decade before their state pensions are payable.

A recent spike in annuity rates means the South Wales dentist will be able to purchase a temporary annuity paying out about 11 per cent, spanning the next decade and making up the shortfall between his current income and the income both he and his wife expect in their late 60s.

Meanwhile, practice administrator Kay is a couple of years away from being able to access her private pension. She will benefit from a rental income on a property, while the couple will draw from savings and the sale of their practice before Kay can draw down.

“I just did a quick calculation in my head and thought well, I’ll be getting £120,000 [in annuity payments] and it will cost me £100,000,” said Langston. He will also draw his NHS pension, while keeping two-thirds of his private pension invested for future drawdown.

Annuities offering guaranteed incomes in retirement have become more attractive in the UK due to improved rates combined with financial market volatility and economic uncertainty.

“Given the uncertainty in the general economic environment, people are considering annuities again in a way they probably haven’t for a while,” said Lorna Shah, Legal & General’s managing director of retail retirement.

Polling commissioned by L&G from Opinium shows one in three people approaching retirement are now considering an annuity, which the provider estimates to amount to nearly 1.8mn pre-retirees. Of these, around 800,000 had long planned buying an annuity but almost 1mn only recently started considering one because of the shifts in the market, according to the data.

Competitor Canada Life has also reported a swell in quote requests, up 58 per cent across most of last year. Its five-year guaranteed product rose from 4.5 per cent to 6.5 per cent providing around £6,542 per £100,000 invested for a lifetime income.

Across the market, rates have risen after a decade of low interest rates ended due to spiralling inflation. Offers spiked around 6.8 per cent in early October following a dramatic sell-off in gilts, levelling out around 6.5 per cent towards the close of 2022.

“The ‘mini’ Budget created market hell and gilt yields spiked beyond expectations,” said Nick Flynn, retirement income director at Canada Life. “They’ve settled down now with 15-year gilts at 3.5 per cent.” 

Rising annuity offers have brought forward the break even point for any purchase, with retirees drawn to the prospect of earning back their initial lump sum in less time than previously under lower rates.

Raj Mody, global head of retirement consulting at PwC, cautioned investors would have to weigh a number of factors before settling on an annuity, including the age at which they started to access any pension pot and their lifestyles.

Shah said rates had piqued interest in annuities, but people still risked “having an ‘either, or’ approach to funding their retirement” when a blended approach involving different products through retirement might be more suitable.

According to the FCA, an average of 70,914 annuities have been purchased in the market each financial year since 2015, when pension freedom reforms came into force. The figure has slowly fallen from 77,192 in 2015 to 68,514 in 2021, with retirees more likely to opt other savings vehicles.

By contrast, drawdown funds enable retirees to keep most of a direct contribution pension invested and still take a regular income. Unlike an annuity, any remaining sum can be left to heirs once the holder dies.

People are also put off annuities, as those in their 50s, 60s and 70s tend to underestimate their chances of survival into extreme old age, according to researchers at the Institute for Fiscal Studies. 

A 2019 study showed hesitancy existed despite an annuity being “priced fairly from an actuarial point of view”, with individuals purchasing decisions shaped by pessimism over their future.

“The vast majority of people would perceive an annuity to be offering them a bad deal,” said David Sturrock, a senior research economist at the IFS. “If you don’t think that you’re going to be sticking around for that long, you’re not going to get that many years of income back.” 

He added: “And so, [investors] kind of say, I’ll be willing to just go my own way and manage the risk and spend down out of my wealth.” 

Demand for annuities could therefore falter if interest rates fall with inflation this year. Daniela Silcock of the Pension Policy Institute warns that providers should innovate.

“Rising interest and annuity rates may be a helpful way to put annuities back on the agenda,” she said. “But it’s really about tapping into the changing needs of the saver market in retirement.”

She suggested products which allow access to a guaranteed income alongside flexible withdrawal and simplified decision-making on retirement.

For some the present moment has been opportune. Langston said: “I was surprised at what they offered if I’m honest. I wasn’t expecting it to be that high at all.”