Download the full guide, including case studies: Health for wealth: Enhanced annuities (PDF)
What’s an annuity and how does it work?
You’ve spent years putting money aside into a pension, but what actually happens once you retire?
One of the options you have is to convert your pension fund into an income, this can be done by buying an annuity. An annuity is a financial product that pays you a guaranteed income for the rest of your life. This is also called a lifetime annuity. If you wish, you can put any other savings or investments towards buying an annuity.
You can choose to take up to 25% of your fund as tax-free cash, but this will mean you’ll receive a lower income in retirement.
How much income you get depends on:
- the amount in your pension fund
- your age
- your occupation
- any illnesses
- whether you are or have been a smoker
- whether you are taking out a single or joint policy, and
- interest rates and other economic factors.
Your annuity will pay you an income (usually monthly) for the rest of your life. This money is normally paid after taking off basic rate tax. Higher rate taxpayers have to pay more tax. Once you have bought an annuity you cannot change it, so it’s important you choose the right product for you.
The Financial Conduct Authority (FCA) strongly advises people who are coming up to retirement to shop around for the best annuity rate. Shopping around is called using the open market option (OMO). To do this, you should seek the advice of a qualified financial adviser.
What is the open market option?
Your pension provider will write to you (normally four to six months before your retirement date) offering a range of annuity options, one of which will be an OMO. This is important as it allows you to take your pension fund to a different provider from the one with whom you have built up your fund.
Before deciding what to do, you should compare what your current pension provider will pay against what other pension companies will pay, as you may be able to get more income in retirement. The OMO allows you to take any retirement product from the provider of your choice. It is flexible and allows you freedom to shop around for the best available annuity income.
Why should I shop around?
There can be a difference of up to 40%* in the rates offered between the worst annuity provider and the best. If you take time to shop around on the open market, you may find that you can qualify for specialist or enhanced annuity products.
By shopping around, you could increase your income by thousands of pounds. It’s estimated that around 70%* of people miss out on extra income in retirement by not shopping around and using their OMO.
This important decision will affect your income for the rest of your life. So, it’s vital to discuss your options with your financial adviser, who’ll help choose the right product for you.
*MGM Advantage Retirement Nation
What’s an enhanced annuity?
If you have a health, lifestyle or medical condition, you are not expected to live as long as someone in a better state of health. This is where enhanced annuities come in. They’re designed to pay you a better income in retirement. (You’ll also see them called impaired annuities.)
Factors which may affect your life expectancy include:
- height and weight
- whether you smoke
- your occupation
- where you live, and
- certain medical conditions
As with a standard conventional annuity, an enhanced annuity pays a guaranteed income for the rest of your life. This income is paid by your chosen pension provider in exchange for the money you’ve built up in your pension fund.
Enhanced annuities are paid for many reasons, from lifestyle conditions such as smoking to serious illnesses such as cancer or heart disease.
Am I eligible?
It’s likely you will qualify for an enhanced annuity if you can answer ‘yes’ to one of the following questions:
- Do you smoke?
- Are you taking regular medication for an illness?
- Have you been admitted to hospital recently?
What conditions qualify?
Everyone’s circumstances are different. Before you make any decisions we strongly encourage you to seek advice from a financial adviser. But to give you an idea, there are more than 5,000 medical conditions that could qualify for an enhanced annuity.
Some of the more common conditions include:
- High blood pressure / raised cholesterol
- Asthma and respiratory conditions
- Liver disease
- Cardiovascular disease
How much extra income could I get?
Research shows that one in every 20** retired people who bought an annuity said they deliberately under-estimated their smoking and drinking and did not declare one or more medical conditions.
It really does pay to be honest at retirement, as the illustration shows. It gives five examples of how much extra income you could receive from an enhanced annuity.
A 65-year old has £100,000 in their pension fund, their pension provider assumes they are 100% healthy and offers an income of £6,194 a year (£516* a month).
|Medical condition||Extra income|
|Smoker||£6,722* a year
an extra £44** a month
|Smoker with raised cholesterol||£6,818* a year
an extra £52** a month
|Diabetes with high blood pressure and high cholesterol||£7,068* a year
an extra £73** a month
|Diabetes with complications||£7,790* a year
an extra £133** a month
|Major health condition||£9,986* a year
an extra £316** a month
* Iress December 2013 ** MGM Advantage December 2013
What if I think I qualify?
It’s not always easy to discuss your health with your financial adviser. However, being open and honest is vital because it could lead to a better income in your retirement. So you and your financial adviser need to complete a medical questionnaire called a ‘common quotation form’ (www.commonquotation.co.uk)
Your adviser will send the completed form to annuity providers to get enhanced annuity quotations. Sometimes you may have to ask your doctor to provide supporting evidence, but usually you will not need to be medically examined.
Remember to be completely honest about your illness because if your condition worsens after you buy your annuity, the amount you receive won’t increase. After your adviser has shopped around for quotations, you can compare the best with the one from your existing pension fund company.
Find out more about an enhanced annuity:
Please call us on 0800 032 8975 for a no obligation quote.