High inflation eating away at Annuities

Posted on November 11th, 2011 | Categories - Annuities

New research has confirmed just how much the current high levels of inflation are eating away at the buying power of level Annuities.

The research from MetLife, who offer a range of Annuity products, has shown that the buying power of a level Annuity has fallen by 16% over the past five years.

Inflation

Each month seems to bring a rise in inflation and at present the Bank of England seem to be reluctant to increase interest rates, the usual way of controlling inflation; for fear that such a move would further dampen the already sluggish economic recovery. Furthermore, the Bank last month announced an addition £75 billion of Quantitative Easing measures, which some experts believe will actually increase inflation.

Inflation has increased during the course of 2011 due to a number of factors, including the VAT increase at the start of the year, higher fuel and energy costs and also the rising price of food.

Experts are divided on the course that inflation will follow in 2012, the Bank believes it will start to fall back towards the target level of 2%, others however believe that inflation will continue at the current levels for some time to come.

To make the problem worse it is widely accepted that because the goods and services they buy are affected by higher than average inflation levels, pensioners actually suffer a high rate of inflation than the official levels of CPI (Consumer Prices Index) or RPI (Retail Prices Index).

Lower incomes

The research from Met Life found that a typical 60 year old, who bought an Annuity giving a level income of £6,180 from their £100,000 pension fund would see the buying power reduce to £5,215 if inflation averaged 3.45% over the next five years. Over 25 years at the same inflation rate the buying power would fall massively to only £2,646.

Dominic Drinstead, managing director of MetLife Europe said: “The new retirement reality means planning for up to 25 years in retirement and even moderate inflation is a major risk to anyone on a fixed income.”

He continued: “(Annuity) Providers need to focus on innovation and offer more flexible solutions that enable people to maintain control over their retirement.”

Options

People seeking an inflation linked income have a number of options; the main one being to buy an RPI linked Annuity. However, this carries its own issues. Any pension annuity calculator will show just how much lower the starting level of income is from an RPI linked Annuity compared to a level Annuity, for some the difference can be as much as 50%.

Third Way Annuities, also known as Fixed Term Annuities can also be useful in the fight against inflation, as can Income Drawdown, but these all carry additional risk which need to be factored in before any decision is taken.