Can you explain how annuity payments work and how they are taxed?

Can you explain how annuity payments work and how they are taxed?

Could you explain how annuity products work? Looking at the comparisons in the Best Buys section of the magazine each month, is the first column of figures the amount paid out each month or is the third column this figure?

Also, when buying an annuity, is tax paid on the whole sum put forward or is tax deducted from the monthly contributions instead? Roughly how much monthly income might be attainable from an annuity of £250,000?

Helen Morrissey
Fri, 09/20/2019 – 00:22


We give you the figures for two types of annuity: conventional annuities, which are for people with no health conditions; and enhanced annuities, which can be bought by people who may have smoked or have various other health conditions – these generally give a bigger income than conventional annuities. 

Looking at the Best Buy tables in this issue (page 81), the figure in the first column after age is the annual amount you can expect to be paid out if you bought an annuity with a level income – an income that will not change over time.

The amount in the third column is the initial annual income you would get if you wanted your income to be linked to inflation, otherwise known as index linked. This means you will generally receive a lower income at the start of your retirement, but it will increase over time.

This means it should cover increases in the cost of living, including food and energy bills.

In terms of taxation, you can take 25% of your pension tax free before you buy an annuity. Tax will then be deducted from the monthly payments.

The amount of income you can get from an annuity will differ depending on the type of annuity and which provider you choose.

However, as a rough estimate, if you bought an index-linked annuity, £250,000 worth of pension savings should generate an annual income of around £9,000 a year – this equates to approximately £750 a month.