Protecting your retirement income

When taking out an annuity you can protect your income and provide extra financial security for your partner or other beneficiary if you die early by adding a ‘guarantee period’. Another way is to add ‘value protection’ which may provide a lump-sum death benefit.

Guarantee period

How a guarantee period works

Having a guarantee period means your retirement income will be paid out for a specific number of years from the time you take out an annuity, even if you die. For example, if you take out an annuity with a 10-year guarantee period and die after two years, the payments would continue for eight more years.

Guarantee periods are usually for five or 10 years but under new rules introduced in April 2015 they can now be for as long as you wish. Bear in mind that adding a longer guarantee period will reduce the amount of income you get.

If you have a joint annuity with a guarantee period and die before it runs out, the income you were getting is paid to your partner or other nominated beneficiary until the guarantee period ends. This payment is in addition to the lifetime income they are due from the joint annuity.

It rarely makes sense to combine a guarantee period with a single annuity because it won’t provide your beneficiary with an income for life. However, it could be suitable where you have a dependant whose life expectancy is shorter than yours, or who you only need to provide for up to a certain time and you want them to be financially secure if you die unexpectedly before them. But remember, the payments will stop as soon as the guarantee period ends and if you outlive the guarantee period there will be no payments at all.

What does it cost?

Adding a guarantee period to an annuity isn’t expensive – the reduction to your retirement income is minimal compared with the added protection it provides should you die in the early years of your retirement

Tax on the inherited income

If you die before age 75 your dependant or other nominated beneficiary will receive the inherited retirement income tax-free. If you die age 75 or over they will pay tax on it at their highest Income Tax rate.

If you need to provide for a dependant for life after you die, a single annuity with a guarantee period is not a suitable alternative to a joint annuity as any income from the guarantee will stop when the period runs out.

Lump-sum death benefit – ‘value protection’

This benefit ensures that when you die, your estate or beneficiaries receive a lump sum which is the difference between the amount you paid for your annuity and the gross income (that’s the payments made before tax) you received from your annuity before you died. If your annuity has already paid out more than you bought it for, there will be no lump sum death benefit when you die.

This option, which is less commonly used than guarantee period, is also known as ‘value protection’ or ‘capital protection’.

Tax on the inherited lump sum

If you die before age 75, any lump sum payment will be paid tax-free. If you die age 75 or over any lump sum due will be taxable at 45% if paid before 6 April 2016 and at the beneficiary’s highest tax rate if paid after that date.

What does it cost?

Adding a lump sum death benefit option means your retirement income will be lower than having no protection – shop around and get advice if considering this option.

Get advice before taking out an annuity

Once you take out an annuity you can’t change your mind – and it’s just one of several options you have for taking your pension. So it’s important to be sure it’s the right choice for you.

For an overview of all of your options and to find out where to get help and advice, including free government-backed guidance from Pension Wise, see our guides below.

Options for using your pension pot

Understanding what Pension Wise is and how to use it

Retirement – why should I get advice?

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