Get 12% More From Your Pension The Easy Way

Here's a simple way to squeeze a higher income out of your pension fund.

You've saved hard all your working life in the hope of having a decent lifestyle when you finally retire. So the last thing you want is to fall at the final hurdle by choosing the wrong annuity.

An annuity converts your pension into a guaranteed income which will be paid to you for the rest of your life. Find out more about annuities and how they work here.

Why is it so important to buy the right annuity?

You want to make the most of your pension, right? To do that, you need to make sure you buy the annuity which offers the highest annuity rate. In simple terms, the higher the rate, the more income you'll receive during your retirement.

So it's vital that you shop around before you make a decision. Increased life expectancy and low interest rates have caused annuity rates to fall across the board, so it's more important than ever to find the best one you can.

How are annuity rates set?

Each annuity company sets its own annuity rates. Let's say you have a pension pot of £100,000 and you're offered an annuity rate of 7%. This will provide you with an annual income of £7,000. But how is that 7% rate determined? Rates are set by

• Your age and gender. You'll receive higher annuity rates if you're older because your annuity is likely to pay out for fewer years. Men will get better rates than women because their average life expectancy is lower.
• The options you choose. If you add extras such as increasing your income in line with the Retail Prices Index (RPI) or providing an income for your spouse after your death, then your annuity rate will be lower.
• The prevailing investment market conditions. Annuity rates are also affected by interest rates and the yields on fixed interest assets such as gilts (government debt) and bonds.

Smoker annuities

Annuity rates can vary depending on whether you smoke or not. Of course, life expectancy for smokers is lower than average. For this reason, the annuity is anticipated to pay out for a shorter period which is rewarded with higher rates.

Some annuity companies -- including Just Retirement, LV= (Liverpool Victoria) and Partnership -- offer annuities specifically for smokers which tend to be a lot more generous than conventional annuities. Today, the average conventional annuity rate for a 65 year-old male is 7.05%, but this increases to 8.4% for smokers.

In other words, a pension pot of £100,000 would provide you with income of £7,050 a year from the average conventional annuity, but £8,400 from the average smoker annuity. This is an uplift of almost 20%.

Postcode annuities

Some annuity companies, such as Legal & General and Norwich Union, have recently gone one step further when they set annuity rates by taking your postcode into consideration too. 

What's your postcode got to do with your annuity? Well, the idea is that your life expectancy is affected by your regional location.

In simple terms, this means people living in deprived areas are likely to have a lower life expectancy than those who live in affluent areas, and this is reflected in the annuity rates they are offered. So, people retiring in poorer regions will receive higher annuity rates because they are not expected to live as long.

You can check the life expectancy for the average person living in your postcode using this calculator (which is based on data from National Statistics).

Annuity Plus - what is it?

Legal & General are developing annuities once again with the pilot of a new product -- Annuity Plus. Conventional annuity rates disregard the health of the individual applicant but this, of course, has a major impact on life expectancy.

Annuity Plus uses five common health risks -- plus your postcode -- to determine the rate for your annuity. This includes:

• Your height and weight
• High blood pressure
• A high cholesterol level
• Diet controlled diabetes
• Whether you smoke

Legal & General reckons if your health is at risk because of one or more of these factors, Annuity Plus could provide an income which is up to 12% higher than a conventional annuity.

The thing is, annuities which take your health into consideration are already widely available on the market. These are known as 'enhanced annuities', but they can be time consuming to set up and often involve asking applicants for difficult personal information. Annuity Plus is designed to fast-track the process with easy to answer health questions.

While the pilot runs, you can get a quote for Annuity Plus through two independent financial advisers firms -- Hargreaves Lansdown and Positive Solutions. You can then compare the rate you're offered there with conventional annuity quotes -- and smoker and enhanced annuities if applicable -- to find out which is the best route for you.

I think Annuity Plus could be a welcome innovation in the annuity market, but it makes sense to compares products across the board. It might be that by fast-tracking your application and offering a less detailed picture of your health, you could be losing out. So do check what other annuity providers would offer you as well. Remember you only get one chance to get this decision right. 

On a final note, if you're in particularly poor health, your best option may be an impaired life annuity, rather than an enhanced annuity. This type of annuity can provide a far higher income than any other type of annuity if your life expectancy is significantly reduced. It's certainly worth looking into because your income could be up to 40% more than you would get from an equivalent conventional annuity.

Useful contacts: Hargreaves Lansdown - 0117 980 9940. Positive Solutions - 0871 700 1111.

More: Will Your Postcode Affect Your Pension? | How To Buy The Right Annuity