Page last updated at 12:00 GMT, Monday, 9 March 2009

Cash creation clobbers annuities

Food and fuel bills have added extra pressure to pensioners' wallets

Annuities for people retiring in the UK will plunge in value after the injection of 75bn into the economy by the Bank of England, experts say.

Insurance companies pay out annuities - a regular income from a retiree's pension pot - based on the yields made from government bonds or gilts.

These yields have dipped dramatically after the Bank said on Thursday it was creating 75bn to buy these gilts.

A 100,000 pension pot can now fetch an annuity of up to 6,488 a year.

This amount, based on a man and woman of 65 with a joint life annuity and an average life expectancy, is nearly 400 lower than the average when rates peaked last year.

It is higher, however, than the equivalent average rate in early 2006 when it dipped below 6,000.

Pension effect

Annuity rates have dropped by about 8% since reaching a six-year high in the summer of 2008.

The 75bn, which is a huge sum of money, is only going to add to the retiring investors' woes
Nigel Callaghan, Hargreaves Lansdown

Somebody retiring in the middle of last year would have been able to convert their pension savings into a much higher income for the rest of their life than somebody retiring now.

The announcement on Thursday of an injection of 75bn by the Bank of England directly into buying government and corporate bonds - known as quantitative easing - meant the price of these bonds saw its steepest rise for 17 years.

But the interest - or yield - from these bonds fell significantly as a result, reducing the amount made by pension funds and so cutting the amount that will be paid out to retiring investors in annuities.

"Annuity rates have been falling quite substantially in the last four or five months," said Nigel Callaghan, a pensions expert at Hargreaves Lansdown.

"However the 75bn, which is a huge sum of money, is only going to add to the retiring investors' woes."

He suggested that people preparing to retire soon should shop around for their annuity, or considering splitting up their pension pot and spending some of it now and some later on annuities. People can buy an annuity up to the age of 75.

He expected annuity rates to fall further in the coming months.

However, over the longer term annuity rates could start to rise again, according to Billy Burrows, of William Burrows Annuities.

Easing deal

There is a possibility of more money injections in the future. While the Bank will initially add 75bn, Chancellor Alistair Darling has given it permission to extend this to up to 150bn.

The idea is that if the amount of money in the system is boosted, commercial banks will find it easier to lend.

Writing in Monday's Daily Mail, Charlie Bean, who is deputy governor of the Bank's Monetary Policy Committee, said they would be closely monitoring the effect of this policy, but admitted there was "a good deal of uncertainty" over the precise impact.

One fear is the potential for inflation in the future. A report by the Institute of Fiscal Studies (IFS) suggested that, unlike the rest of the population, the inflation rate for pensioners was already rising.

Gordon Lishman, director general of Age Concern, said: "As younger people enjoy the benefits of the lowest levels of inflation for decades, older people still find much of their income is swallowed up by high food and fuel bills, forcing many to make drastic cutbacks."

He said this made it even more important for pensioners to claim all the benefits to which they were entitled. He said 5bn went unclaimed in the UK each year.

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