Annuity rates have reached their highest level in eight years. But is it time to consider this former staple of retirement income again?

Inflation is reaching multi-decade highs at the moment, and looks set to stay higher for longer. The upward spike in price rises caught many central banks, including the Bank of England, off guard.

As a result, the bank is hiking its core interest rate to combat those price rises. The organisation is mandated by the Government to keep inflation levels at around 2% – and it is currently nowhere near achieving this, with inflation measured by the Consumer Prices Index (CPI) at around 9.1% according to the Office for National Statistics (ONS).

For this reason, the Bank of England is intent on hiking rates, which currently stand at 1.25% – the highest level since 2009. This is where the rise in annuity rates comes in.

What are annuities?

Annuities are a form of retirement income product. Before 2015 when pension freedoms were introduced, they were a much more common product to opt for at retirement than today.

But a decade of low rates, and changes in the rules for accessing pension cash effectively killed the market.

When you purchase an annuity, you exchange cash in your pension for a product that pays you a guaranteed income, generally for the rest of your life. You can get different types of annuities – including level annuities which pay the same amount every year, escalating annuities which rise at a fixed rate each year or inflation-linked annuities which rise (or fall) with inflation.

The length of an annuity also varies, with short, fixed term or lifetime annuities. Impaired annuities also exist, which pay out at a higher level if you have any pre-existing conditions such as obesity or diabetes, or if you are a smoker. Protection can also be built into an annuity in the form of spouse’s income, guarantee payment period or value protection. Each of these options will affect the rate of annuity you can achieve.

Depending on the product you pick, you exchange the cash in your pension for a regular income.

Why are annuity rates hitting new highs?

Providers of annuities will typically take your money and invest in low-risk assets such as bonds. As bond yields have risen this year thanks to adverse investment market conditions, so annuity rates have also moved upwards.

Annuity rates are also rising because the bank rate is rising. These rates move in the same way as cash savings, rising with interest rates. Annuity rates are increasing at the quickest pace in 30 years currently.

Is it time to buy?

Annuities are looking like a more attractive option, and could feasibly be considered as part of a wider portfolio of investments. It could be an especially attractive option if your long-term life expectancy is short thanks to medical conditions, lifestyle or age.

As is the case for all wealth solutions, it makes sense not to put all your eggs in one basket. Annuities can provide some income peace of mind, but are also not very flexible, unlike investments that produce an income from other assets such as bonds or equities.

Pension freedoms, when introduced, were very popular for a good reason – giving retirees much more choice over what happens to their lifetime of wealth growth.

Annuity rates will also change again over time – it’s impossible to say whether they will continue to climb, or will reverse as markets normalise and inflation peaks.

If you would like to discuss your options, or for any queries in general, don’t hesitate to get in touch with your financial adviser.