Do you want to protect your annuity payments against inflation?

Written by Retirement Line Updated: 9th January 2025

You can increase your annuity income over time to retain its buying power

Inflation eats into the real value of your annuity income. High inflation in particular can reduce what you can buy on a fixed income that has not risen to keep pace with inflation.

A solution is to arrange for your annuity income payments to increase each year.

You will find information about inflation-linked annuity protection below. For more information, please contact us to speak to one of our Annuity Specialists. They can discuss your situation and provide quotations from leading annuity providers to illustrate your options.

On this page:

• Why is it important to consider inflation protection in retirement?

• Do annuities increase with inflation? 

• How does an inflation adjusted annuity work?

• Pros and cons of annuities with inflation protection.

• Is an inflation protected annuity right for you?

• Make an informed annuity decision.

Use our free annuity calculator

Why is it important to consider inflation protection in retirement?

For those of us in retirement, elevated inflation levels mean day-to-day prices going up when our pension income stays the same. This can have a real impact on our standard of living in later life and our enjoyment of retirement.

Whilst there is no crystal ball to see exactly how long we’ll live, today’s retirees are enjoying longer, healthier lives than our predecessors. As you could be in retirement for 30 years or perhaps even more, it’s important to consider the impact of inflation on your retirement income.

Despite the Bank of England’s target to keep inflation at 2%, inflation has seen food and energy bills soar in recent years. The Consumer Prices Index (a calculation of the change in prices for goods and services) peaked at 11.1% in October 2022, the highest seen in 40 years. Inflation has come down since, with prices rising by 3.2% in the 12 months to October 2024,

Even if inflation does return to the Bank of England’s target of 2% and remains around that level for the whole of your retirement, it would still almost halve what you could afford to buy in 30 years’ time. For example, a £10,000 annual income today would have a buying power of just £5,520.71 in 30 years. 

Fortunately, if you choose an annuity, there are ways to help protect the value of your retirement income being eroded. 

What is an annuity?

If you have saved money into a personal or company ‘defined contribution’ pension scheme, and you are aged 55 or over (57 from April 2028), you can turn your savings into income with an annuity, either for life or a fixed term. 

You might choose an annuity if you want a retirement income that is unaffected by interest rate or stock market fluctuations. That’s because an annuity pays a guaranteed income, so you’ll know from the outset how much you’ll receive. You can also add death benefits so that a beneficiary receives a lump sum or income should you pass away before them.

Do annuities increase with inflation? 

When arranging your annuity, you’ll have options to tailor your retirement income to your needs. One key decision is choosing between a level or an escalating income:

• Level annuity. Your income payments remain the same throughout the term of your annuity. This option provides consistency but does not protect against inflation, meaning your income's buying power may decrease over time.

• Escalating annuity. Your income increases annually, either by a fixed percentage or in line with the Retail Price Index (RPI).

An escalating annuity typically starts with a lower income than a level annuity. Depending on the escalation rate, it may take several years for your payments to match - and eventually exceed - the initial level income. We’ll discuss this in greater detail further on.

How does an inflation adjusted annuity work? 

If you choose an annuity with inflation protection, you will have a further decision to make. This is because there are two ways to determine how your income will increase each year:

Increase income in line with prices. Choosing to increase your inflation adjusted annuity payments in line with the RPI helps offset the effects of inflation. The RPI measures the average change in the price of certain goods and services in the UK, such as housing costs, transport and food. This can help ensure your income retains its value over time.

In recent years, RPI has often been higher than other measures of inflation, such as the Consumer Prices Index (CPI). So, while CPI peaked at 11.1% in October 2022, RPI was higher at 14.2% during the same period. 

Increase income at a fixed percentage. If you wish, you can increase your annuity income payments by a fixed amount each year with a percentage escalating annuity – typically at 3% or 5% per annum. This could be helpful if you want to know exactly how much income you will get in the future.

Important consideration

If you decide you want to protect your income against inflation, either by a fixed percentage or in line with RPI, you cannot change this decision. This makes it essential to carefully consider which option might align best with your needs and future financial goals.

To help you make an informed choice regarding your annuity protection, we recommend obtaining quotes for both types of escalating annuities. Comparing these quotes will give you a clearer picture of how each option could impact your future income and ensure you feel confident in your decision.

Pros and cons of annuities with inflation protection

As with any financial product there are some pros and cons of an inflation adjusted annuity. 

The key benefit of an inflation protected annuity is that it will go some way to safeguarding your retirement income from the effect of future price increases. It will mean that your income could potentially have the same or similar buying power in the future as it does when you take out your annuity.

However, there is a drawback to annuities with inflation protection. When you begin to receive your retirement income, the amount you get will initially be lower than an annuity that pays the same amount each year. This could be an issue if you cannot afford to live on the starting income that you are offered with an inflation-linked annuity. 

Here are some examples to illustrate the difference between the starting income with inflation adjusted annuities and level annuities:

Note: The figures above are based on annuity rates at 02/09/2024 from Retirement Line’s in-house annuity quote system, which gathers quotes in real time from the UK’s leading annuity providers. Please see our annuity rates page for the latest figures.

Figures are based on single life conventional lifetime annuities for a male, using a Peterborough postcode (PE7 8JG), with the payment frequency set to monthly in arrears. ‘Age’ refers to the person’s age when the annuity is set up. You may be eligible for more income with an enhanced annuity.

Is an inflation protected annuity right for you? 

Remember that income from an annuity with inflation protection will increase over time. This could give you valuable protection against the damaging impact that inflation has on the buying power of our income. On the other hand, arranging annual increases in this way will lower the income you receive from the start of your annuity.

It is also worth considering how much income you will need as you grow older. You may feel that you will need less money in your eighties than you do in your sixties, for example, if you anticipate being less active. 

In that case, seeing the value of your income fall in real terms due to inflation may not be a concern. This isn’t true for everyone of course, and only you will know what type of lifestyle you anticipate through your retirement. 

We should also add that some of your other sources of retirement income may already include inflation protection. For example, the State Pension is currently guaranteed to rise in line with the higher of earnings, inflation (measured by increases in prices) and 2.5%. You may also have income from a ‘final salary’ pension scheme with some degree of inflation proofing.

To decide whether an inflation adjusted annuity is right for you, you will want to weigh up a number of factors. These include your overall retirement income, how much of it is inflation-proofed, and how you see your lifestyle changing over time. 

Make an informed annuity decision

One of our Annuity Specialists will be only too happy to provide you with a breakdown of the annuity figures so you can make an informed decision. They will also be able to compare the annuity rates from leading annuity providers, showing income levels with and without inflation-linked annuity protection.  

Call us on 0800 652 1316, request a call back or email info@retirementline.co.uk. Our UK-based team will be happy to provide the information you need to make a decision that’s right for you.

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