With Profits Annuity


Last updated: 20/03/2014


A With Profits Annuity is a type of Lifetime Annuity that a retiree can buy at retirement with their personal pension funds.

As with a conventional Lifetime Annuity, the retiree hands over their pension funds to an annuity provider and, in return, they receive an income for the remainder of their life.

The main difference between a With Profits Annuity and a conventional Lifetime Annuity is that with a With Profits Annuity a retiree has a chance of receiving a rising income over time because their pension fund is invested in units of a With Profits investment fund and their annuity income payments are linked to the investment performance of the fund.

At the outset, the retiree is provided with a guaranteed minimum amount of annuity income.

If the chosen provider’s With Profits Fund performs well, they may declare a bonus that has the potential to increase the annuity income. If it does not perform well, the income can go down (not below the guaranteed minimum starting amount) or remain the same.

ARTICLE SECTIONS:

WHAT IS A WITH PROFITS ANNUITY?
WHO CAN BUY A WITH PROFITS ANNUITY?
HOW IS THE GUARANTEED MINIMUM INCOME CALCULATED?
WHAT IS AN ASSUMED BONUS RATE (ABR)?
CHANGING THE WITH PROFITS ANNUITY ASSUMED BONUS RATE
WITH PROFITS ANNUITY REVIEWS
TYPES OF WITH PROFITS ANNUITY BONUSES
WITH PROFITS ANNUITY OPTIONS
OPTION TO SWITCH TO A CONVENTIONAL LIFETIME ANNUITY
POOR HEALTH IN LATER YEARS
SOME ADVANTAGES OF A WITH PROFITS ANNUITY
SOME DISADVANTAGES OF A WITH PROFITS ANNUITY
WITH PROFITS ANNUITY & CHARGES
HOW IS THE INCOME FROM A WITH PROFITS ANNUITY TAXED?
WITH PROFITS ANNUITY ADVICE, RATES & QUOTES
HOW DOES A WITH PROFITS FUND WORK?

Each With Profits Annuity provider has their own set of rules regarding who can and cannot buy a With Profits Annuity.

The minimum age on entry is usually 55 years old.

The upper age limit can be different for each provider.

Each provider will also have its own minimum acceptable pension fund value.


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Before the With Profits Annuity starts, the provider calculates a guaranteed minimum income that the retiree will receive.

The guaranteed minimum income will be based on certain factors such as:

the size of the retiree’s fund (after taking any tax-free cash entitlement).

the age and gender of the retiree.

annuity rates and the prevailing investment market conditions at the time.

the frequency of the annuity income payments and other options chosen.

an Assumed Bonus Rate (see below) of 0%.


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An Assumed Bonus Rate (ABR) is selected at outset by the retiree. It is basically their best guess of what the chosen provider’s With Profit Fund bonus rate will be in the future.

Each provider has a different scale but, generally, the retiree can select an ABR of between 0% and 5% per annum.

If the retiree chooses an Assumed Bonus Rate of 0%, they will receive an income equal to the set guaranteed minimum and will see their income increase if any bonuses are declared.

Alternatively, they can select a higher Assumed Bonus Rate and initially receive an income that is higher than the guaranteed minimum but this may be reduced if the actual bonus rate turns out to be lower than the Assumed Bonus Rate chosen by the retiree when the annuity income is reviewed.

There is no guarantee that the provider will declare a bonus rate equal to the retiree’s chosen ABR.

The With Profits Annuity Assumed Bonus Rate (ABR) can usually be changed (subject to certain conditions) although each With Profits Annuity provider has their own rules.

Some providers may ask for medical evidence before agreeing to a higher ABR.


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A With Profits Annuity is usually reviewed on a set date each year.

If the chosen ABR turns out to be higher than the actual bonus rate declared by the provider, the retiree’s income will go down.

If the chosen ABR is lower than the bonus rate declared by the provider, the retiree’s income could go up.

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There are two main types of With Profits Annuity bonuses. They are as follows:

Annual Bonus

An Annual Bonus may be added to a With Profits Annuity at the review date.

Once added, it will not usually be withdrawn. However, if the retirees’ chosen ABR is on the high side (higher than the actual bonus), there is a possibility that the future income payments from the annuity may still go down.

Temporary Bonus

From time to time the annuity provider may declare a Temporary Bonus.

Temporary Bonuses are not guaranteed and are dependant upon the amount of investment growth, the expenses, and the mortality experience of the underlying fund to date.

A Temporary Bonus may be added in the form of additional annuity income. However, as the name suggests this will be a temporary addition to the existing income. This extra income can be removed at any time.


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A With Profits Annuity usually has many of the same of options as a conventional Lifetime Annuity.

A retiree can choose:

the payment frequency of their annuity income. They can choose to have them paid monthly, quarterly, half yearly or yearly in advance or arrears.

a payment guarantee period of between 1 and 10 years.

to include a spouse or partner on their annuity as a joint annuitant. They can arrange for the joint annuitant to receive as much as 100% of the income that they were receiving prior to their death.

Note: Unless a joint life option and/or a guaranteed payment period are selected at the outset, the annuity payments will cease on the death of the policyholder.

As with a conventional Lifetime Annuity, a retiree can usually take up to 25% (subject to a maximum) of their pension fund as a tax-free cash lump sum before they buy a With Profits Annuity. This must be taken from the retiree’s pension fund before it is used to purchase units/benefits in a With Profits Annuity.


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Some With Profits Annuity providers offer the option for a retiree to switch their pension funds from their With Profits Annuity into a conventional Lifetime Annuity at a future date. Generally, once this switch has taken place no further alterations are possible.

The age limits for this option vary depending upon which on provider is chosen.

As an extension to the above option to convert their With Profits Annuity into a conventional Lifetime Annuity at a future date, some With Profits Annuity providers also offer retirees Enhanced Annuity rates when converting if they have poor health in later years and are suffering from certain medical conditions.

Below are some advantages of a With Profits Annuity.

The income has the potential to increase over time.

The investment benefits from ‘smoothed’ returns which helps reduce the risk of any ‘ups and downs’ occurring during turbulent market conditions.

A guaranteed minimum income applies.

A retiree can choose to add benefits for their spouse/civil partner/dependants that would be paid if the retiree died before them.


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Below are some disadvantages of a With Profits Annuity.

The contract is fairly complex and not simple to understand.

The charges will usually be higher than a conventional, non-invested Lifetime Annuity.

There is no guarantee that the income will exceed that of a conventional, non-invested Lifetime Annuity over the longer term.

Depending on how long they live, the retiree may get back less than they have paid in.

After the annuity has been bought, the retiree will no longer have any investment or other control over their pension funds.

The amount of income (subject to the minimum guaranteed amount) has the potential to go down as well as up.

The annuity options chosen at outset will usually be fixed for life. They could turn out to be less suitable if the retiree’s personal circumstances alter in later years and could result in a lower initial income.


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Depending upon which With Profits Annuity provider is chosen and what has been agreed between the retiree and their adviser (for any initial advice) the annuity could have an initial charge (which will be shown in the illustration) and/or an annual charge (to cover the expenses borne by the With Profits fund).

Generally, any other charges will be reflected in the bonuses declared by the With Profits Fund.

The effect that the charges have on overall investment returns on a retiree’s annuity will be shown in a ‘point of sale’ personalized illustration given at the start before the annuity commences.


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The annuity income payments from a With Profits Annuity will be taxed under the Pay As You Earn (PAYE) system and are therefore subject to Income Tax. However, there are no National Insurance contributions payable and any Income Tax paid can be claimed back from HM Revenue & Customs by those eligible to do so.


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When compared to a conventional Lifetime Annuity, a With Profits Annuity is a relatively complicated investment product and it is advisable to get advice before buying one.

Many annuity providers only allow a retiree to access a With Profits Annuity via a financial adviser and so if you want to obtain the latest With Profits Annuity rates and quotes you will have to seek advice and assistance from a financial adviser.


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A typical With Profits fund invests in a wide range of investments.

This is a deliberate strategy designed to spread the overall investment risk.

Holdings may include stocks & shares in UK and overseas companies, fixed interest securities (mostly Government gilts) and property. The fund may also hold varying amounts of cash and other securities to provide the fund with liquidity or to reflect changes in the investment markets.

To help provide stability over time, in the good years the fund manager holds back some of the investment returns gained on the fund.

These ‘held back’ gains are used to bolster the fund when investment performance isn’t so good.

This strategy provides a ‘smoothing’ effect on overall returns as the fund is cushioned (to some degree) against the ups and downs of the stock/investment markets. The fund manager’s aim is to provide investors with steady growth over time.

Usually, if investment returns have been favourable, the gains on the fund are distributed yearly to policyholders in the form of regular guaranteed bonuses and ‘non-guaranteed’ top up bonuses.

If there is a prolonged downturn in the investment markets and the underlying assets in the fund suffer heavy losses, the provider may have to declare a zero bonus rate until the markets improve.

If the With Profits fund provider is a mutual company, the lion’s share of the bonuses (the growth on the assets) will be distributed amongst its qualifying With Profits fund policyholders.

If the provider is a limited company, the company’s shareholders will also be included in a share of the profits, which means that less will be available for the policyholders.

Future bonuses depend upon the experience of the underlying with profits fund chosen – e.g. the investment returns earned, its mortality experience and ongoing expenses.


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