How a lifetime annuity works: guarantees, joint life, tax and shopping around
Published · 6 min read · Figures checked . UK rules and rates change, so check the official sources below before you act.
A lifetime annuity is an insurance product that turns pension savings into a regular income. This guide explains the main options, how the income is taxed in 2026/27, and what the FCA requires firms to tell you.
What a lifetime annuity is
A lifetime annuity is a contract in which you hand a sum from your pension savings to an insurance company, and in return it pays you a regular income for the rest of your life, or until the end of any guarantee period you chose (a guarantee period is a fixed number of years for which payments continue even if you die). HMRC's pension tax rules say that, for annuities starting on or after 6 April 2015, the annuity must be bought from an insurance company and be payable for your life or to the end of any guaranteed term. The money used must come from a money purchase pension, meaning one built from contributions and investment growth rather than a promised salary-based benefit.
The attraction of an annuity is certainty: the income does not depend on investment performance after you buy, because the insurer takes on the risk of you living longer than expected. The trade-off is flexibility. The terms are set by the contract, so options such as a guarantee period or an income for a partner need to be chosen when you buy, and each one usually reduces the starting income. Whether a particular annuity can later be changed is a question for the provider and the contract, so it is worth reading the terms and asking before committing.
The main options and what they change
Annuities are built from a few choices. A level annuity pays the same amount each year, while an escalating one is designed to rise, either by a set percentage or in line with inflation. A single-life annuity stops when you die, whereas a joint-life annuity, which HMRC describes as providing a further annuity to a dependant or nominee after you die, carries on paying a survivor. A guarantee period keeps payments going for a set number of years. HMRC says that for annuities starting on or after 6 April 2015 a guarantee can be of any length. Each protection normally lowers the income you start with, because the insurer is promising to pay for longer or to more people.
- Level: the same income each year, with a higher starting amount than a rising one
- Escalating: income designed to rise each year, so it starts lower
- Joint life: a further annuity can be paid to a partner or other nominee after your death
- Guarantee period: payments continue for the remaining term if you die within it
- Enhanced: a higher income may be offered where health or lifestyle factors affect life expectancy
How annuity income is taxed
HMRC's manual says annuity income is taxed as pension income through PAYE, and the tax applies to the full annuity income arising in the year. In practice this means it is added to your other income, such as a State Pension or earnings, and taxed using the bands for the year. For 2026/27 the Personal Allowance is £12,570 outside Scotland, and GOV.UK lists the rates above. GOV.UK also notes that income tax bands are different if you live in Scotland, so Scottish residents need the Scottish bands, which this guide does not set out. Wales and Northern Ireland use the same bands as England for these rates.
Tax can also apply to money paid after death. HMRC says payments from a guarantee period are taxed in the same way as the annuity unless several conditions are all met: the member died after 2 December 2014 and before age 75, and no payments before 6 April 2015 went to anyone other than the member. Where those conditions are met the payments are tax-free. Because the rules depend on your age at death and your circumstances, families sometimes find it helpful to check HMRC's guidance or ask the provider how their annuity would be treated.
A worked example
Consider purely illustrative figures. Suppose someone receives an annuity of £8,000 a year and other pension income of £7,000 a year, and has no other income in 2026/27 and lives outside Scotland. Total income is £8,000 plus £7,000, which is £15,000. Subtracting the £12,570 Personal Allowance leaves £2,430 taxable, and 20% of £2,430 is £486. The same person would therefore pay £486 of Income Tax in the year on those figures. Tax codes and how providers apply them can differ, so real payslips and statements may look different.
A guarantee works like this on illustrative numbers. Suppose an annuity pays £5,000 a year with a 10 year guarantee, and the holder dies after 4 years. Six guaranteed years remain, and 6 multiplied by £5,000 is £30,000 that would continue to be paid to the nominated person. Whether that £30,000 is taxed depends on the HMRC conditions above. Had the holder lived beyond the guarantee period, payments would have continued for life, and no further guarantee payments would have been due.
Who this applies to, and common mistakes
This guide applies to people with money purchase pension savings who are weighing up an annuity. It does not apply to defined benefit pensions, which pay a set income from your employer's scheme, or to the State Pension. Common mistakes are focusing on the starting income without checking what protections are included, and assuming the pension provider's own quote is the only one. The FCA requires firms giving a guaranteed annuity quote to show how it compares with the market-leading quote, and where a higher income is available to say so and to state the difference in pounds. Firms must also point to MoneyHelper, which can be used to obtain quotes from other providers.
Health and lifestyle can matter. FCA rules require firms to ask the questions needed to check whether someone may be eligible for an enhanced annuity, one that pays a higher income because of health or lifestyle factors, and to produce a market-leading enhanced quote where they are. The rules also require a warning where a guaranteed annuity rate could offer better value than the open market. Many people find it useful to compare several quotes on the same basis, with the same level of protection, before deciding.
Protection if an insurer fails
The Financial Services Compensation Scheme (FSCS), the UK's compensation scheme for failed financial firms, says it can protect annuities from UK-regulated insurers where they count as contracts of long-term insurance. Where compensation is payable, it says it covers the pension at 100% with no upper limit. FSCS cannot confirm whether individual plans qualify, so the provider is the place to ask. This protection is different from the limits on SIPPs, which FSCS says are generally capped at £85,000.
Where to get free help
MoneyHelper, run by the Money and Pensions Service, is the free, government-backed service that the FCA rules point people to, and can be used to get annuity quotes. If you feel a firm has treated you unfairly, the Financial Ombudsman Service handles complaints free of charge. Nothing in this guide is personal advice.
Check before you act
Rules, rates and thresholds change, and your own position may differ. Please confirm the figures on the official pages linked below before relying on them.
Sources
For information only. See our disclaimer and editorial standards. Spotted an error? Tell us.
