I’m considering my retirement options and one of them is buying an annuity. I know that an annuity will pay me a regular income for life, but what happens after I die? Does my annuity keep paying after death?
We often hear annuities spoken of as “income for life”, so it’s a very good question to ask what happens to your pension annuity if you die.
Unfortunately, there’s no simple answer as it really depends on how you set up your annuity at the outset.
Arguably the simplest type of annuity is a single life annuity, which is just written on one life. Here, once you pass away, the income from the annuity stops.
This could be problematic if you had dependants you want to leave the annuity income to, such as a spouse who has only limited pension savings of their own. In this instance, a joint annuity can be based on the lives of two people (you and your spouse/partner) and will continue paying out to them until their death.
Joint annuities can sometimes include dependant children, although the upper age limit for this is usually 23.
Also, if you’re including someone much younger than yourself, then it’s likely that the amount you’ll receive in initial annuity income will be far lower than if you were just taking out an annuity yourself.
With all joint annuities, because the annuity companies foresees having to pay the income for longer you’ll likely face a lower initial income.
If you take out an annuity with a guarantee period, your annuity continues paying out after your death for the remainder of that guarantee period.
A guarantee period is set at the start of your annuity and begins when you receive your first payment.
Guarantee periods are typically set at 5 or 10 years, but there’s technically no upper limit on the length of a guarantee period (although in reality providers tend to set the ceiling at 30 years). The longer the guarantee period, the lower the initial income will be.
With a guarantee period, if you die between receiving your first annuity payment and the end of the guarantee period, your annuity will continue paying out for the rest of the guarantee period.
So if you had a 10 year guarantee period and died after receiving your annuity for only 5 years, your beneficiaries would still receive 5 years of annuity income after your death.
Another way to protect your annuity after you pass away is an annuity with value protection. Also known as a capital protected annuity, this allows for a return of the capital invested (less any income you’ve received from the annuity and any tax due) on your death.
You can protect all or just some of your annuity, with the amount you’re protecting having an impact on the income you’ll receive.
With a value protected annuity, when you die the the annuity company returns any part of your pot you haven’t received as income to your beneficiaries.
Note that if you’ve received more from your annuity than your pension pot is worth, you won’t get anything back.
If you’ve chosen a joint annuity for a dependant’s pension, you can have the lump sum paid out on the death of the dependant, if there’s any left.
This lump sum return to beneficiaries is usually tax-free if you pass away before the age of 75 and subject to income tax at the recipient’s highest marginal rate if you die after the age of 75. Inherited pensions are almost always free from inheritance tax.
If you’re worried about what happens to your pension income after you die, you may need to ask yourself whether an annuity is really right for you. Most annuities stop paying out on the death of you or your partner. You can use capital protection for annuities, but this will be at the cost of a lower income during your lifetime.
If passing down your pension pot is a priority, then it could be a better option to look at pension drawdown. Here you move your retirement savings to a drawdown fund and draw lump sums and income from the pot as required. You can then pass on any unused funds in drawdown to your loved ones free from income tax if you pass away before the age of 75.
Pensions & Investments Expert at Drewberry
Choosing between an annuity and pension drawdown is a major decision. Once you opt for an annuity you can’t change your mind, so it’s essential to get pension advice to make sure you’re making the most out of your retirement savings. The team at Drewberry is here to help — just pop us a call on 02084327333.
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.