Annuities under the spotlight

An annuity is an investment you have to buy with most of the money you've built up in your personal pension fund.

In exchange for this lump sum, an annuity provides you with a guaranteed income from the day you buy it until the day you die.

You can volunteer to buy an annuity from the age of 50 but, by law, you have to buy one before you hit 75.

Why is that?

It's a way for the Government to ensure you have a regular source of income during your retirement.

You can buy an annuity from the age of 50 but, by law, you have to buy one before you hit 75

It's the state's way of making sure we don't spend all our pension on luxury holidays in the first year of retirement and then rely on benefits to keep us alive.

They government believes it has the right to enforce this purchase because our pensions enjoy years of tax-free growth.

Why are they unpopular?

Annuities have come in for a lot of flak in recent years because rates on annuities are very low.

As a result, you don't get a lot in return for your pension pound.

The reason for this is that insurance companies - which provide annuities - invest your pension in low risk products such as government bonds (gilts).

This is responsible of them as it means you won't be left with no money in retirement.

But many people believe the investments are too conservative

There are increasingly loud and persistent calls for people to be able to keep control of their pension funds and make their own investment decisions.

The recent Pensions Green Paper from the government proposed several types of more flexible pensions to try to meet these concerns.

Why are annuity rates so bad?

The income you would be paid now from an annuity is almost half the amount you would have received 10 years ago.

This is partly because we are living longer.

Our pension has to pay for more years of annuity income, reducing our annual payments.

It is also a reflection of lower interest rates in general.

As we said, annuities tend to be heavily invested in gilts, which are loans to the government.

Returns on these loans are subject to influences such as bank rates and mortgage rates, all of which are historically low at the moment.

What happens to my annuity if I die?

If you die after buying an annuity, your annuity ceases and the money that you paid for it is taken by the insurance company. Your dependents get nothing.

This might seem unfair, but it's part of the gamble that you and the annuity provider take.

Imagine you live to be 100 - you'll have done well out of your annuity because the income you'll have been paid will be more than your pension fund's value.

But if you die the day after you buy the annuity, the provider will have done very well out of it.

The exception to this is a joint annuity.

These can be taken out by married couples and continue to pay an income should one partner die. The downside is that they pay a lower income.

Can I choose my annuity?

You can choose from several different types of annuities and from several different providers.

For instance you can opt for a fixed amount of income to be paid every year, or for an escalating annuity, where your income rises each year.

Or you could opt for a variable annuity, which means your returns will vary depending on the success of the portfolio of investments bought with your pension.

Not all annuities pay the same rates and you will often get a better deal by shopping around.

And there is one big catch.

Once you have purchased an annuity you cannot swap it, ever.

For this reason, you have to make sure you get a good annuity that suits you.