Annuity jargon explained
A guide to some of the main terms you may come across when looking at annuities
Annuity terminology - What does it all mean?
Annuities have their own terminology – it’s important that you understand what the terms mean – it can be very difficult to unwind an annuity once it is set up. We have explained some of the terms you may come across below.
the person(s) taking out an annuity
Escalation or escalating annuity
if escalation is selected, the amount of your income payments increase each year by a specified percentage. Fixed escalation allows you to specify a percentage up to 8.5% a year. Alternatively, you can select for the income payments to increase in line with inflation – either the Retail Prices Index (RPI) or the Consumer Prices Index (CPI).
if you have a capital protected annuity and you die before the annuity has made total payments (before tax) that are equal to your original Purchase Price, annuity payments continue after your death to make up the shortfall (i.e. until total payments (before tax) equal the Purchase Price).
Compulsory purchase annuity (CPA)
the technical name for an annuity purchased using the proceeds of your pension pot. It used to be compulsory to purchase an annuity but this compulsion was removed in April 2006.
These are a type of lifetime annuity offered by some insurance companies/annuity providers. An enhanced annuity may offer a higher annuity rate (and therefore a higher income) than a lifetime annuity, if you meet certain criteria which could shorten your life expectancy. These criteria include:
- you are, or have been, a smoker; and/ or
- you are overweight; and/ or
- you have spent a significant part of your working life in a hazardous environment.
You may be asked additional questions before you are offered an enhanced annuity rate. The annuity rate that you are offered is based on the average life expectancy for people meeting the above criteria.
an option to ensure that a minimum number of year’s payments are made by the annuity, even if you die. The maximum guarantee period is 10 years. If you die during the guarantee period, the annuity will continue to make income payments until the end of the selected guarantee period or you could select that the remaining payments are paid as a lump sum (this option is not permitted where the guarantee period is 10 years).
Impaired life annuity
These are a type of lifetime annuity offered by some insurance companies/annuity providers that are designed for people that suffer from, or have suffered from, a medical condition that results in a reduced life expectancy.
To qualify for an impaired life annuity, you will need to complete a questionnaire on your medical history. The annuity provider may also ask for further information from your doctor and/ or ask you to attend a medical examination. The annuity rate that you’re offered is based on an estimate of your personal life expectancy calculated using the medical information supplied.
if you select a payment frequency of, say, monthly in advance, you will receive an income payment each month. The first payment is made immediately after the annuity is set up and subsequent payments one month later.
if you select a payment frequency of, say, monthly in arrears, you will receive an income payment each month, but the first payment is not made until the end of the first month (i.e. 28/29/30 or 31 days (depending on the month) after you purchased the annuity).
an annuity where part of the Purchase Price is used to provide a, generally, low level of guaranteed income and part is invested to provide a further income amount based on the investment performance of the invested portion.
Joint life or joint life last survivor (JLLS) annuity or pension
an annuity that is set up to pay a continuing income to a designated dependant after your death. You can choose the amount of income they will receive as a percentage of your income (e.g. 1% - 100% of the annuity that you receive during your lifetime).
an annuity that does not increase in payment (i.e. an annuity with 0% escalation).
These are the most common type of pension annuity (also known as compulsory purchase annuities or just as annuities). A lifetime annuity provides an income stream for the rest of your life (as the annuitant) or the rest of the lives of the annuitants for a joint life last survivor annuity.
The annuity rate is the amount of income that you will be offered for each £ of pension fund. The rate offered is based on the average life expectancy for people your age and the investment returns for the low risk investments that the insurance company will invest your money in.
Open market option (OMO)
your right to shop around at the time you take your benefits to find the most competitive annuity rate in the market.
an option that can be included in joint life last survivor annuities where you have selected a guarantee period. If overlap is included and you die within the guarantee period, the income payments to your dependant will start at the next scheduled payment date even though the balance of your income payments over the guarantee period are also being made (so the two payments overlap). If the annuity is set up ‘without overlap’ the income payments to your dependant do not start until the first scheduled payment date after the end of the guarantee period if you die.
how often you receive your annuity payments. Standard payment frequencies are monthly, quarterly (every 3 months), half-yearly (every 6 months) and annually (every 12 months). See also ‘In advance’ and ‘In arrears’.
These are a type of lifetime annuity offered by some insurance companies/annuity providers where they base the annuity rate they offer on where you live. The thinking behind this is that people living in different parts of the country have different life expectancies – broadly speaking, if you live in a wealthier area, you’re likely to live longer than someone living in a poorer part of the country. If you’re likely to live for longer, the annuity will be paid for longer so you’re likely to be offered a lower annuity rate.
an option that can be included in an annuity. If the annuity is ‘with proportion’ part of the next scheduled income payment will be made if you die, based on the number of days since the last income payment was made. ‘Without proportion’ means that no partial payment is made if you die
Purchased life annuity (PLA)
A type of annuity that is not purchased using the proceeds in your pension pot but can be purchased using PCLS or any other money that you have available
the amount that is used to buy the annuity. If the whole of your pot has been paid to the annuity provider and they are paying a pension commencement lump sum (PCLS) to you, the purchase price does not include the PCLS.
Single life pension or single life annuity
an annuity set up with you as the only annuitant. Income payments cease on your death unless you have selected a guarantee period.
an annuity that runs for a fixed period of time (e.g. 5 years) or until the annuitant’s death, if earlier. Joint life last survivor temporary annuities continue until the earlier of the end of the term or the second death of the annuitants.
Term certain (see Guarantee period)
Where can I find out more?
If you need more information, please contact us. A pension specialist from our team will be happy to help with whatever pensions-related question you have. Our help is always free.