What Is an Annuity?
An annuity is a financial product that converts a pension pot — or part of one — into a guaranteed income stream. You pay a lump sum to an insurance company; in return, the insurer commits to paying you a regular income, either for the rest of your life or for a specified term. The amount of income is fixed at the point of purchase, based on your age, health, the prevailing interest rate environment, and the options you select.
Annuities were the default retirement income product for defined contribution pensioners for most of the twentieth century. The pension freedoms of 2015 removed the effective compulsion to annuitise and introduced flexible drawdown as the dominant alternative. Since then, annuity sales have recovered — particularly after 2022, when rising gilt yields made annuity rates substantially more attractive than they had been for a decade.
Understanding annuities properly remains important, even for clients who ultimately choose drawdown. In many cases, the right answer is a blend of both — and comparing the two requires a clear grasp of what each offers.
Types of Annuity
The annuity market offers several distinct product variants. The differences between them are significant, and the right choice depends heavily on your circumstances, health, and priorities.
Lifetime Annuity
This is the most straightforward product. You pay a lump sum; the insurer pays you a fixed income for the rest of your life, however long you live. There is no investment risk, no management required, and no risk of running out of money. The downside is that the income is fixed at the time of purchase and — unless you choose an escalating option — its real purchasing power erodes with inflation over time.
Lifetime annuities represent the purest form of longevity risk transfer: you give the insurer the investment and longevity risk, and they guarantee your income regardless of how long you live or how markets perform.
Enhanced and Impaired Life Annuity
Enhanced annuities pay a higher income than the standard rate, reflecting the insurer's assessment that your life expectancy is shorter than average. Any health condition or lifestyle factor that reduces your life expectancy may qualify — including heart disease, type 2 diabetes, high blood pressure, a history of cancer, chronic obstructive pulmonary disease, obesity, or smoking.
The improvements available can be substantial. For a client with significant health conditions, an enhanced annuity may pay 20–40% more income than a standard rate. Even for modest conditions such as controlled high blood pressure or being overweight, enhancements of 5–15% are common. We always recommend a full medical disclosure exercise before any client finalises an annuity purchase — even conditions you might regard as minor are worth disclosing.
Joint Life Annuity
A joint life annuity continues to pay an income to a surviving spouse or civil partner after the annuitant dies. The continuation rate is set at purchase — typically 50%, 67%, or 100% of the original income. A higher continuation rate provides greater security for a surviving partner but reduces the starting income.
For clients with a dependent spouse, a joint life annuity is generally more appropriate than a single life option, unless other financial provision for the surviving partner is robust.
Escalating Annuity
An escalating annuity increases in payment each year, either by a fixed percentage (typically 2–5%) or by tracking the Retail Prices Index (RPI) or Consumer Prices Index (CPI). This protects purchasing power against inflation over a long retirement.
The catch is that the starting income of an escalating annuity is materially lower than a level annuity — often 25–35% lower. A level annuity pays more in the early years; an escalating annuity catches up over time. The break-even point depends on the rate of escalation and prevailing inflation, but is typically somewhere between 10 and 15 years into retirement.
Fixed-Term Annuity
A fixed-term annuity — sometimes called a short-term or temporary annuity — pays income for a specified period (commonly 5, 10, or 15 years) and then returns a maturity value at the end of that period. The maturity value can be used to purchase another annuity, move into drawdown, or for other purposes.
Fixed-term annuities are useful for clients who want some short-term income certainty without permanently committing their pot. They are also sometimes used as a bridge — for example, to provide income from pension age to State Pension age, reducing the need to draw from a drawdown pot during the years when sequencing risk is highest.
Investment-Linked Annuity
An investment-linked annuity (sometimes structured as a unit-linked or with-profits annuity) provides a variable income linked to the performance of underlying investments. This introduces an element of market risk in exchange for the potential for higher income in good years.
These products are considerably more complex than standard lifetime annuities and carry investment risk that standard annuities do not. They are appropriate only for a narrow range of clients and warrant specialist advice.
How Annuity Rates Are Set
The rate offered by an annuity provider — expressed as the annual income per £100,000 of purchase price — is driven primarily by long-term gilt yields. Gilts are UK government bonds, and insurers back annuity liabilities with long-dated gilt portfolios. When gilt yields rise, insurers can earn more on the assets backing the annuities they sell, and they pass some of that benefit on in the form of higher rates.
This explains the dramatic improvement in annuity rates seen from 2022 onwards. As the Bank of England raised interest rates aggressively to combat inflation, long-term gilt yields rose sharply. A 65-year-old male with a £100,000 pot who would have received around £3,800–£4,200 per year from a standard annuity in 2021 might receive £6,500–£7,500 or more in 2025/26. The improvement was substantial and material.
Your personal rate will also reflect your age (older clients get more because the insurer expects to pay for fewer years), your health (enhanced rates for poorer health), and the specific options you choose (joint life, escalation, and guaranteed periods all reduce the starting rate).
The Open Market Option
One of the most important things to understand about annuity purchase is that you are not obliged to buy from your existing pension provider. The open market option gives you the right to take your pension pot and seek quotes from any provider in the market.
In practice, the rate your existing provider offers is rarely the best available. Research consistently shows that rates vary by 10–15% between providers for the same client profile. On a £200,000 purchase, a 12% difference in rate amounts to approximately £1,500–£2,000 per year of additional income — compounded over a 20-year retirement, that is a difference of £30,000–£40,000 or more.
We strongly advise every client approaching annuity purchase to explore the full market, either directly or through an adviser or broker who has access to multiple providers. Accepting the default rate from your pension company without comparison is a financial error that cannot be corrected once the annuity is in place.
The Case for Annuities: Advantages
Despite falling out of fashion during the low interest rate era of 2010–2021, annuities offer genuine advantages that deserve objective consideration.
Certainty. The income does not depend on investment returns, market levels, or interest rate movements after purchase. You know exactly what you will receive. For many clients, the psychological value of this certainty — the ability to budget confidently for the rest of your life — should not be underestimated.
No investment risk. Once the annuity is in place, the insurer bears the investment risk. A market crash does not affect your income. For clients without the appetite or expertise to manage an investment portfolio through retirement, this is a meaningful benefit.
No longevity risk. An annuity pays for life, regardless of how long that is. Drawdown, by contrast, can run out. For clients who are concerned about outliving their money — or who have family longevity on their side — a lifetime annuity eliminates this risk entirely.
No decision fatigue. Drawdown requires ongoing decisions about withdrawal amounts, investment strategy, and periodic reviews. An annuity requires no management once purchased. This is particularly appealing to clients in advanced old age or those who do not wish to be closely involved in managing their finances.
The Case Against Annuities: Disadvantages
Inflexibility. Once purchased, an annuity is irrevocable. If your circumstances change — you need a large lump sum, your income needs fall dramatically, or you receive a significant inheritance — you cannot alter the arrangement.
No inheritance. A standard single-life annuity ends on your death. If you die shortly after purchase, your estate receives nothing from the pension pot that funded it. This is a significant disadvantage for clients with estate planning objectives or dependants. Joint life options and guaranteed periods mitigate this but at the cost of a lower starting income.
Inflation risk with level annuities. A level income that felt generous at retirement can feel very different twenty years later in a world of cumulative inflation. At 3% average annual inflation, the real purchasing power of a fixed income falls by roughly 45% over 20 years.
Purchase timing risk. Annuity rates at the point of purchase are locked in. Buying at a moment of particularly low gilt yields — as many clients did between 2010 and 2021 — locks in a permanently poor rate. Conversely, buying when yields are elevated captures those rates for life.
When Annuities Make Sense
Based on our work with clients across a wide range of circumstances, annuities tend to make most sense in the following situations.
Where health conditions qualify for enhanced rates, the differential between what a standard drawdown is likely to deliver and what an enhanced annuity pays may be small — and the certainty of the annuity becomes very compelling.
Where guaranteed income from other sources is limited — a small DB pension, State Pension below the full rate, or no State Pension at all — an annuity to provide a base income floor often makes sense before using remaining funds for drawdown.
At advanced age, the sequencing risk of drawdown is at its most acute, annuity rates improve with age, and the horizon over which drawdown must sustain income shortens. We find that many clients in their mid-70s or older are increasingly drawn to the simplicity and certainty of an annuity.
Where there are no dependants or estate planning objectives, the inheritance disadvantage of a single-life annuity matters less.
How Global Investments Can Help
Annuity purchase is one of the most significant and irrevocable financial decisions a person can make. At Global Investments, we guide clients through the full range of options before any decision is finalised — including a thorough assessment of whether an annuity, drawdown, or a combination of both best fits their circumstances, health, income needs, and estate planning objectives.
For clients who determine that an annuity is appropriate, we assist with the open market option process — canvassing the full provider market to secure the best rate available, including enhanced terms where health conditions apply. If you are approaching retirement and weighing your income options, we invite you to speak with our pensions team before committing to any course of action.
Pension rules, tax rates, and annuity rates change. The information in this guide reflects the position as of June 2026. Annuity rates are illustrative and not guaranteed. This guide is for information purposes only and does not constitute regulated financial advice. Please seek advice from a qualified pension adviser before purchasing an annuity.
Frequently Asked Questions
What is an enhanced annuity and who qualifies?
An enhanced annuity — sometimes called an impaired life annuity — pays a higher income than a standard annuity if you have health conditions or lifestyle factors that reduce your life expectancy. Qualifying conditions include heart disease, diabetes, certain cancers, obesity, and even smoking. Rates can be 10–40% higher than standard rates. Any health condition is worth disclosing; even modest enhancements add up significantly over a long retirement.
Is annuity income taxable?
Yes. Annuity income is taxed as earned income in the UK and falls under PAYE. Your provider deducts tax at source. If you live abroad, a Double Taxation Agreement between the UK and your country of residence may mean the income is taxable only in your country of residence, or may allow for credit relief. The treatment varies by jurisdiction — take specialist advice.
Can I change my mind after buying an annuity?
No. Once purchased, an annuity is irrevocable. There is no cooling-off period specifically for annuities (though you have 30 days to cancel under some consumer protection rules in certain circumstances — this is narrow). This is why the decision to buy an annuity warrants very careful consideration, ideally with regulated advice.
What is the open market option and why does it matter?
The open market option is your right to shop around for your annuity rather than buying it from your existing pension provider. Annuity rates vary by 10–15% between providers for the same client profile. By taking your pension pot and seeking quotes from multiple providers — or using an annuity broker — you can secure a meaningfully higher income for life. You should never simply accept the default rate from your pension company without comparing.
What happens to my annuity when I die?
It depends on the type of annuity you purchased. A single-life annuity ceases on your death, with nothing paid to your estate. A joint-life annuity continues to pay a proportion (typically 50% or 67%) to your spouse or partner for their lifetime. A guaranteed period means the annuity pays for at least that period (e.g. 5 or 10 years) even if you die sooner. Value protection allows a lump sum to be paid on death equal to the original purchase price less income already received.
This guide is for general information only and does not constitute financial, legal or tax advice. Pension rules, tax rates and programme details change; verify current requirements with a qualified and FCA-regulated pensions adviser before acting. Pension transfers involving defined benefits over £30,000 require regulated advice.