When you invest in a living annuity, you need to decide how to invest your savings.
Depending on the annuity product you choose, you may be able to choose from actively managed portfolios, passively managed portfolios, combinations of these or multi-managed funds.
While saving for retirement, you are obliged to invest in line with prudent investment guidelines in regulation 28 of the Pension Funds Act. If you use a living annuity bought from an insurer to invest your retirement savings to provide an income, you no longer need to comply with regulation 28.
However, this does not mean you should ignore the principles of diversifying well across the different asset classes and some living annuity providers may guide you on whether your choices are in line with those in regulation 28 or not.
If your retirement fund offers a living annuity that is provided by your fund - known as an in-fund living annuity - you will have to invest in line with regulation 28 and the trustees may also have guidelines on how you should invest.
Balancing growth and income
When choosing investments you need to balance your need for growth, especially as you will probably be planning for your investments to support an income for 30 years and the need for your investments to support an income.
If you get advice from a qualified financial adviser, he or she may recommend setting aside some of your investments in a more conservative portfolio to sustain your shorter-term income needs and investing the rest with a higher exposure to growth assets such as equities and listed property, including offshore equities and listed property.
Be wary of investing all your capital in a living annuity too conservatively, as you still need your capital to keep ahead of inflation.
Living annuity investments are not restricted to any level of offshore exposure and the appropriate level for you will depend on your circumstances. However, many providers’ have done research indicating that levels around 30 percent are generally appropriate.
Many portfolios offered to living annuity investors target a particular return, such as inflation (as measured by the Consumer Price Index) plus four or five percentage points. If you want to draw an income that keeps up with inflation and avoid depleting your capital, you need a return equal to the percentage of your savings required to give you the income you need, plus costs plus inflation. So, if you need an income of 4% of your capital, your costs are 2%, you will need to earn a return of inflation plus 6% (4% + 2%) to avoid depleting your capital.
Others are designed to deliver a growing income by investing in fixed income investments as well as listed shares and property investments that pay consistent, growing dividends. In these portfolios there is less focus on the value of your savings. The aim is to deliver sufficient income to fund your pension without drawing on the capital value.
