What is a pension annuity?

Are you planning for retirement and wondering about your pension options? A pension annuity is a financial tool that provides a steady stream of income after you’ve retired. You can think of it as a way to convert a portion of your retirement savings into a reliable source of income.

On this page, we’ll cover the meaning of an annuity, how they work, the various types available, and alternatives you might consider. We’ll also look at how you can maximise your retirement income with options like a high-interest savings account.

A pension annuity is a retirement product you can purchase using savings from your pension pot, in return for a reliable income. When you purchase an annuity, you exchange a lump sum of money, typically your pension savings, for a series of payments over a set period of time, but usually for the rest of your life. To buy an annuity, you normally enter into a financial agreement with an insurance or life assurance company.

When buying a pension annuity, you can choose to pay either a lump sum or make regular payments over a specific period. In return, the insurance company agrees to provide you with regular payments, which can start immediately or at a later date. An annuity can serve as a key element of your investment portfolio, giving you a secure source of income on a monthly or yearly basis.

If you’re looking into pension annuities, you’ll typically find two main types. These are single-life and joint-life annuities.

• Single-life annuity: With a single-life annuity, you receive payments for the duration of your life only. Once you pass away, the payments will stop. With this option, you’ll typically receive higher monthly payments compared to joint-life annuities, as payments end with your death.

• Joint-life annuity: As the name suggests, a joint-life annuity is designed for couples, ensuring that some of your pension (typically around 50%) goes to your spouse upon your death. Just like a single-life annuity, it provides regular payments until your death, but with the added advantage that payments will keep being made to your partner or dependent after you’re gone.

In addition to these two options, you can choose from a range of features for your pension annuity:

• Level annuity: The payment remains consistent for the duration of your life. This means you receive the same amount regularly and can enjoy some level of predictability in your retirement income.

• Escalating annuity: Provides payments that increase at a fixed rate each year, which is usually linked to the Consumer Price Index. This can help your income keep up with inflation and rising living costs.

• Immediate needs annuity: Provides an immediate income stream, typically starting within a short period after buying an annuity. It’s meant for covering urgent financial needs, such as living expenses or medical bills.

• Deferred annuity: Allows your investments to grow over time before you start receiving payments, and you may get a better annuity rate to reflect the shorter payment period. This can be beneficial if you’re planning for retirement but don’t need immediate income.

• Guaranteed period: Ensures the annuity payments continue for a specified period, typically ranging from five to 30 years, even if you pass away. If you do pass away within this period, the payments are transferred to your chosen beneficiary.

• Minimum payment period: Pension annuities usually come with a minimum payment period of either five or 10 years. If you pass away before this period is up, the payments will keep going to your estate for the remaining years. 

Your financial adviser will usually recommend taking extra care when selecting your pension annuity options, as the features you choose cannot be altered once the annuity is up and running.

In Ireland, you might have to meet certain eligibility criteria in order to purchase a pension annuity. However, you can usually buy an annuity regardless of who provides your pension. Also, anyone who has a pension fund, whether it’s a private pension or a workplace pension scheme, can usually buy a pension annuity. 

This includes the following:

• Personal retirement savings account (PRSA)

• Company pension (occupational pension)

• Personal pension policy (PPP)

If you already have an Approved Retirement Fund (ARF) to manage your retirement savings, you might also be able to set up a pension annuity.

Typically, you need to be at least 55 years old and have built up enough funds in your pension pot to purchase an annuity that provides you with a regular income in retirement. An annuity provider will consider factors such as your age, health, and the size of your pension fund to calculate the income you’ll receive.

If you’ve reached retirement age, and you have a pension pot of €100,000, you’re typically entitled to take a tax-free lump sum of up to 25%, which in this case amounts to €25,000. Once this lump sum has been deducted, you’re left with €75,000 to purchase a pension annuity.

Let’s say you are 65 years old, and you’ve opted for an annuity with a rate of 5.3% and no additional features. Based on this €75,000, the annuity will provide you with a yearly income of €3,900 for the rest of your life. 

However, it’s worth noting that the actual amount a pension annuity will pay can vary based on several factors, including your age, health, interest rates, and any additional features you choose. Current annuity rates in Ireland are some of the highest they’ve been in recent years as a result of rising interest rates, which has meant that annuities are becoming increasingly popular. You’ll also find that annuity rates in Ireland vary from company to company, so it can be worth comparing providers to get the most from your savings.

Here are some pros and cons of pension annuities to consider when deciding if they’re right for you:

Pros:

• Guaranteed income: An annuity provides the certainty of an income for the rest of your life with no risk of it falling in value, regardless of market fluctuations or economic conditions.

• No investment decisions: With an annuity, you can enjoy the certainty of a steady income without the stress of having to decide where your funds are invested.

• Benefits for your spouse: An annuity allows you to provide a guaranteed pension income for your spouse after your death, giving them extra financial stability at a difficult time.

Cons:

• Potentially lower income: Pension annuity rates in Ireland may be less competitive at certain times depending on interest rates, potentially limiting your total income in retirement.

• Limited flexibility: Once you purchase an annuity, you’re committed to its terms, which means you may not be able to adjust your income or change the way you access your savings.

• Age restrictions: Annuities are typically suitable for people aged 50 or over but not older than 80, so they may not be an option for everyone.

Given that a retirement annuity is a long-term, fixed commitment, you might find it helpful to weigh your options carefully. A financial advisor who specialises in pensions can provide personalised advice based on your specific circumstances, preferences, and retirement goals.

When it comes to funding your retirement in Ireland, purchasing a pension annuity is a popular choice. However, it’s important to keep in mind that there are other options available to you. Taking a lump sum from your pension and gradually drawing down the rest can provide some flexibility, but it can help to assess these choices while keeping Revenue regulations and potential tax implications in mind. 

While your pension might be your main source of income in retirement, diversifying your sources of income can enhance your financial security. For example, by putting some funds in a high-interest savings account, such as a fixed term deposit account, you can take advantage of competitive interest rates without the risks that come with investments. By setting money aside for a fixed period, you can benefit from the interest earned to give your pension a boost and enhance your retirement lifestyle.

For access to a variety of competitive savings accounts offered by our partner banks, simply register for a Raisin Account today and apply online.

With some pension annuity providers, if you purchase an annuity at the age of 70, the maximum guarantee period is typically 30 years. If you pass away within that time frame, any remaining benefits will be paid to your chosen beneficiary. This means that even if you’re no longer around, your loved ones can still benefit from the money you invested in the annuity.

No. According to current Revenue rules, once you’ve purchased a pension annuity, you cannot cash it in or make extra withdrawals. 

That’s why it is often worth being completely sure of what you’re getting into and agreeing with all the terms before jumping into purchasing an annuity.

No. Similarly to the previous point, once you’ve purchased a pension annuity, you cannot change any of its features, such as the rate of escalation, or change from single life to joint life. Because the idea of a pension annuity is to provide a fixed, secure form of income in retirement, you cannot change its features once purchased.

Annuity payments are considered income and are taxed under your usual rates. This is because when you contribute to a pension, you receive tax relief from the government on those contributions. You may also have to pay the Universal Social Charge (USC), but this will depend on your individual circumstances.

If you are the beneficiary of someone who passed away under the age of 75 with a joint-life or guaranteed term annuity, you might be able to receive future payments tax-free.