What Is An Annuity?

January 19, 2026

In simple terms, an annuity is a financial product that turns a portion of your savings (usually your pension) into a guaranteed income for the rest of your life.

Think of it like “buying a salary.” You give an insurance company a lump sum of money, and in return, they promise to pay you a regular amount every month or year until you pass away.

How Does an Annuity Work?

In the UK, you can typically buy an annuity once you reach the age of 55 (this is rising to 57 from April 2028). Most people take up to 25% of their pension as a tax-free lump sum first, then use the remaining 75% to buy the annuity.

The Trade-off

The most important thing to know is that once the “cooling-off” period ends, an annuity is usually permanent. You cannot change your mind, “cash it in,” or get your lump sum back. You are trading flexibility and potential investment growth for the total security of knowing your money will never run out.

Types of Annuities

Not all annuities are the same. You can customize them based on your health and family situation:

  • Lifetime Annuity: The standard option that pays out until you die.
  • Joint Life Annuity: Continues to pay a portion of the income to your spouse or partner after you die.
  • Level vs. Escalating:  Level pays the same amount every year (its “buying power” drops as prices rise).
    • Escalating starts lower but increases each year to keep up with inflation.
  • Enhanced (or Impaired) Annuity: If you have health issues (like high blood pressure or diabetes) or you smoke, you can often get a higher income. This is because the provider expects to pay you for a shorter period.

Pros and Cons at a Glance

Pros Cons
Security: Guaranteed income for life, no matter how long you live. Irreversible: You can’t change the terms or get your capital back later.
Peace of Mind: Not affected by stock market crashes or bank rate changes. Fixed Amount: You can’t “dip in” for extra cash if you have an emergency.
Simplicity: No need to manage investments or worry about “running out.” Inflation Risk: Unless you pay for an “escalating” plan, your income buys less over time.

Is Now a Good Time?

For many years, annuity rates were very low. However, with the higher interest rates seen in 2024 and 2025, annuities have become much more attractive again. By 2026, many retirees are choosing a “blended” approach: using an annuity to cover basic bills (mortgage, food, utilities) and keeping the rest of their pension in a flexible “drawdown” fund for holidays and fun.

Top Tip: You don’t have to buy an annuity from your current pension provider. Always “shop around” using the Open Market Option to find the best rate—it could mean thousands of pounds extra over your lifetime.