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How is an Annuity Taxed?

Could you explain annuities and taxation to me please? I’m approaching retirement and considering an annuity, but I’m not sure what the tax implications will be. How much tax will I pay on my pension if I opt for an annuity?

Question asked by Mr R Stein

Tax on Retirement Annuities

This is a good question because a lot of people aren’t sure how their pension will be taxed.

Your pension will be taxed differently depending on how you take it (the rules are different for pension drawdown vs an annuity, for example).

However, annuities are treated as income and so most people are familiar with the way they’re taxed — it’s very similar to the way they’ve been taxed on earned income throughout their working lives.

In retirement, just as when you were at work, you get an income tax threshold, known as your personal allowance.

Above this (£12,500 in the 2019/20 tax year) you start paying income tax.

The income tax bands are the same as for earned income, rising to 40% for higher rate taxpayers and 45% for additional rate taxpayers.

HMRC’s measure of your income won’t just come from your annuity; it will also be derived from other sources, such as the State Pension, property rentals, dividend income etc. and all added together to determine your final tax bill.

Tax on Inherited Annuities

If you have an annuity with a guarantee period or a joint annuity, these will continue paying out to a spouse or partner (either for a set period or until your beneficiary’s death, respectively) after your death.

In this instance, if you die before the age of 75 such payments are typically made free from income tax. If you die after the age of 75, the payments from your inherited annuity will usually be made subject to income tax at the beneficiary’s marginal rate.

In both instances, the annuity income is generally free from inheritance tax.

I had the pleasure of dealing with Jake Mills in organising my insurance. Jake was fantastic to deal with — his patience and understanding really helped.

Brendan Kelly
26/09/2019
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