Annuity choices

DT2001

Notepad_Phil said:

Johnnyy_Boy said:

westv said:

sgx2000 said:

Simple spreadsheet
At 7% inflation, the real world value of your pound approx. halves in 10 years

And the total received from an RPI annuity will exceed the level annuity in year 17.

So based on retiring at state pension age of 66, it will be after you are 83 being better off. I would guess you would be spending much less by then. 

Not necessarily, e.g.you might be spending less on such things as holidays, lunches out, etc, but then you might be spending more on gardeners, cleaners, etc. Many people will have such a U shaped curve of expenditure i.e. starts off high, then drops off but then goes up again as you start to need outside help to do the things you used to do for yourself.

I agree. My mother’s spending was in the shape of a flattened W. The second decrease came when she downsized and the final increase, support at home and then a nursing home was funded by the equity released from her original property. A flat rate annuity in her case would have been better to allow greater expenditure in the early years. I think it depends on your plan and expectations as to which is better.

OldScientist

Steve_666_ said:

For those that plan to live a long retirement, level annuities carry a large risk. I asked this on another thread, but nobody replied as it was a bit off topic.

If you are looking for an annuity with inflation protection, is there any mileage in a strategy that splits your annuity funds into 2 and allocating
50% to an annuity rising by 3%
50% to an annuity rising by the RPI ?

It could depend on what expenditure you are trying to support withe the annuities.

For example, if the income your state pension and any fully index linked DB pensions are not going to support your essential expenditure (at a minimum, essential expenditure would cover the basics of food, clothing, heat, housing, etc., but, could also cover things you really couldn't live without whatever those might be) then adding to this baseline of inflation linked income using an RPI annuity might be useful.

On the other hand, if your 'essential' expenditure is already covered by inflation linked income, then adding a nominal annuity might be a convenient way of front loading 'lifestyle' expenditure but with the risk that inflation may reduce how far this goes prematurely. Of course, having to cut back on hobbies etc., might be unpleasant, but at least it isn;t life threatening.

For all the plots of smooth changes in annuity income, history has dealt the UK retiree relying on nominal, fixed income a few blows.

For example, 1915 to 1920 saw annual inflation of 12.5, 18.1, 25.2, 22.0, 10.1, and 15.4% for a cumulative effect of dropping the real value of fixed income by more than half (luckily followed by deflation that returns some value).

westv

OldScientist said:

Steve_666_ said:

For those that plan to live a long retirement, level annuities carry a large risk. I asked this on another thread, but nobody replied as it was a bit off topic.

If you are looking for an annuity with inflation protection, is there any mileage in a strategy that splits your annuity funds into 2 and allocating
50% to an annuity rising by 3%
50% to an annuity rising by the RPI ?

It could depend on what expenditure you are trying to support withe the annuities.

For example, if the income your state pension and any fully index linked DB pensions are not going to support your essential expenditure (at a minimum, essential expenditure would cover the basics of food, clothing, heat, housing, etc., but, could also cover things you really couldn't live without whatever those might be) then adding to this baseline of inflation linked income using an RPI annuity might be useful.

On the other hand, if your 'essential' expenditure is already covered by inflation linked income, then adding a nominal annuity might be a convenient way of front loading 'lifestyle' expenditure but with the risk that inflation may reduce how far this goes prematurely. Of course, having to cut back on hobbies etc., might be unpleasant, but at least it isn;t life threatening.

For all the plots of smooth changes in annuity income, history has dealt the UK retiree relying on nominal, fixed income a few blows.

For example, 1915 to 1920 saw annual inflation of 12.5, 18.1, 25.2, 22.0, 10.1, and 15.4% for a cumulative effect of dropping the real value of fixed income by more than half (luckily followed by deflation that returns some value).

Prior to 2015 weren't level annuities the most popular? Then again if I had been presented with a rate of 12% to 15% (or whatever it was back in the day) I think I would have been tempted.

OldScientist

westv said:

OldScientist said:

Steve_666_ said:

For those that plan to live a long retirement, level annuities carry a large risk. I asked this on another thread, but nobody replied as it was a bit off topic.

If you are looking for an annuity with inflation protection, is there any mileage in a strategy that splits your annuity funds into 2 and allocating
50% to an annuity rising by 3%
50% to an annuity rising by the RPI ?

It could depend on what expenditure you are trying to support withe the annuities.

For example, if the income your state pension and any fully index linked DB pensions are not going to support your essential expenditure (at a minimum, essential expenditure would cover the basics of food, clothing, heat, housing, etc., but, could also cover things you really couldn't live without whatever those might be) then adding to this baseline of inflation linked income using an RPI annuity might be useful.

On the other hand, if your 'essential' expenditure is already covered by inflation linked income, then adding a nominal annuity might be a convenient way of front loading 'lifestyle' expenditure but with the risk that inflation may reduce how far this goes prematurely. Of course, having to cut back on hobbies etc., might be unpleasant, but at least it isn;t life threatening.

For all the plots of smooth changes in annuity income, history has dealt the UK retiree relying on nominal, fixed income a few blows.

For example, 1915 to 1920 saw annual inflation of 12.5, 18.1, 25.2, 22.0, 10.1, and 15.4% for a cumulative effect of dropping the real value of fixed income by more than half (luckily followed by deflation that returns some value).

Prior to 2015 weren't level annuities the most popular? Then again if I had been presented with a rate of 12% to 15% (or whatever it was back in the day) I think I would have been tempted.

Level annuity rates back to 1956 (graph taken from "U.K. Annuity Rates, Money’s Worth and Pension Replacement Ratios 1957–2002" by Edmund Cannon and Ian Tonks) would certainly indicate that shorter life expectancies led to very nice annuity rates by recent standards. An annuity with a payout rate of 14% bought in 1970 would have been worth about 2.8% in real terms by the start of the 1990s. UK males had a life expectancy of roughly 12 years in 1970 while just under 20% would have survived to 1990 and only about 2% to 2000, so inflation would have affected some annuity buyers later in retirement.

Hoenir

OldScientist said:

Steve_666_ said:

For those that plan to live a long retirement, level annuities carry a large risk. I asked this on another thread, but nobody replied as it was a bit off topic.

If you are looking for an annuity with inflation protection, is there any mileage in a strategy that splits your annuity funds into 2 and allocating
50% to an annuity rising by 3%
50% to an annuity rising by the RPI ?

For example, 1915 to 1920 saw annual inflation of 12.5, 18.1, 25.2, 22.0, 10.1, and 15.4% for a cumulative effect of dropping the real value of fixed income by more than half (luckily followed by deflation that returns some value).

Europe was at war for much of that period. Followed by a depression. Not normal economic times by any stretch of the imagination. Life expectancy was also much shorter. 

OldScientist

Hoenir said:

OldScientist said:

Steve_666_ said:

For those that plan to live a long retirement, level annuities carry a large risk. I asked this on another thread, but nobody replied as it was a bit off topic.

If you are looking for an annuity with inflation protection, is there any mileage in a strategy that splits your annuity funds into 2 and allocating
50% to an annuity rising by 3%
50% to an annuity rising by the RPI ?

For example, 1915 to 1920 saw annual inflation of 12.5, 18.1, 25.2, 22.0, 10.1, and 15.4% for a cumulative effect of dropping the real value of fixed income by more than half (luckily followed by deflation that returns some value).

Europe was at war for much of that period. Followed by a depression. Not normal economic times by any stretch of the imagination. Life expectancy was also much shorter. 

True - how about the 8.9% annualised inflation between 1970 and 1990 (a total drop in the income of a level annuity of about 80% - see other post above)?

Who knows what unusual economic conditions await us over the next 20 or 30 years? Having some inflation protected income at least offsets inflation risk (but not entirely - e.g., government default, insurance company default for annuities, FSCS failure, and so on) whether through an RPI annuity or via a ladder of inflation linked gilts.