Interest rates and annuities: What could this mean for your retirement?

As interest rates rise, retirees are benefiting from higher annuity rates.  

Annuities are in high demand. According to Canada Life’s half year results in the UK, annuity sales doubled compared to the same period last year.

In May alone, the Winnipeg-based financial services company brought in over £100 million of new business, its highest in eight years.

It said much of the renewed interest in annuities is down to heightened interest rates, which are bumping up the returns on these products.

“We’ve experienced an extraordinary come-back for individual annuities, driven by the significant increase in value offered from the returns available, combined with customers seeking income security in times of economic uncertainty,” Lindsey Rix-Broom, CEO at Canada Life UK.

It’s not just Canada Life which is reporting this trend. British multinational insurance company Aviva said sales for retirement related products were up by 17% over the half year.

This was disclosed in its interim results, which further detailed that much of this rise was attributed to an increased demand for annuities.    

So why are annuities in high demand?  

Annuity returns are directly influenced by the Bank of England’s base rate.

This is because most pension providers reinvest your lump sum into Government bonds – or gilts as they are known in the UK.

More information on Government bonds can be found in our explainer guide, but in essence investors will earn a yearly coupon on their investment. For UK gilts, the coupon rate is strongly influenced by the Bank of England’s base rate.

So when the Bank of England’s base rate increases, annuity providers increase the amount they’re willing to offer.

Likewise, when interest rates are lowered annuity returns lose some of their appeal.

Over the last decade, annuity rates have languished alongside a low base rate.

According to Moneyfacts data, in August 2018 someone at 55 years of age with a £10,000 lump sum could earn £360 each year on average. At this time the base rate sat at 0.75%.

This August the base rate sits at 5.25% and the same 55 year old person could earn £541 a year on average.

Both figures are based on a sum paid without guarantee. This means your dependents won’t receive any payments after your death.

This trend is corroborated by Canada Life’s own research.

It said in 2018 a 65 year old with a £100,000 lump sum would generate over £5,200 a year in income. It would therefore take 19 year to break even, or make back the same amount as your deposit.

In comparison, the same person with the same deposit this year would earn almost £7,000 each year. This works out to 14 and a half years before the retiree breaks even.

If you’re looking to take advantage of the high-interest rate environment and take out an annuity, we’ve listed some of the best pay outs below.

All pay-outs are based on a £50,000 purchase price for one person without guarantee.

These pay outs are also calculated for policy holders who don’t smoke or have underlying health issues.

The main benefit of an annuity is that your income is guaranteed for a certain period.

This may ultimately come at a price, and you could earn more money by opting for a pension drawdown.

Speaking to an independent financial adviser may be the best course of action for your retirement plan.