We’ve seen a significant cost of living shock since 2020, with prices rising sharply over the past six years. While there were hopes inflation was easing, geopolitical uncertainty earlier this year has already had knock-on effects, with energy bills rising again this month. After many years of relatively modest price rises, inflationary pressures have been a defining feature of this decade. Prices have risen by 42%1 since 2020, once the cumulative impact of inflation has been considered, according to our recent analysis of RPI data.

How inflation-linked and level annuities have performed since 2020
Our research2 reveals 94% of over-50s say inflation is a key consideration when thinking about their pension, yet almost half (48%) are unaware that annuities can provide inflation protection. As a result, many retirees may be overlooking an option specifically designed to help maintain spending power throughout retirement. The inflation shock of recent years provides a useful illustration of how inflation protection can work in practice.

A 65-year-old who purchased an inflation linked annuity with a £100,000 pension in January 2020 would have seen their guaranteed income rise from around £2,900 a year to £4,050 a year by March 2026, reflecting the inflation experienced over the period.3

While a level annuity would have delivered a higher total income over this period, its purchasing power would have been steadily eroded by inflation.

For retirees, the key consideration is not simply how much income is received, but the spending power that income provides. A fixed income may go further initially, but prolonged periods of inflation can reduce its spending power significantly over time.

Inflation-linked annuities are designed to provide protection against one of the biggest risks facing retirees: rising living costs. By increasing income over time, they can help preserve spending power throughout retirement, although this comes at the expense of a lower starting income.

Across different potential inflation scenarios, the point at which an inflation linked annuity’s income exceeds that of a level annuity can vary significantly, ranging from around 9 to 29 years after purchase.

The point at which income overtakes will vary depending on future inflation, but the objective remains the same – helping income keep pace with rising prices throughout retirement. It’s important to remember that even once the breakeven point has been reached, an inflation linked annuity will continue to increase each year to retain its real value. However, the spending power of a level annuity will continue to reduce as prices rise.

Inflation between 2020 and 2024 came as a shock to many, following more moderate cumulative rises of 20% between 2010–2014 and 15% between 2015–2019. The recent surge was driven by steep increases between 2021 and 2023, including the 11.6% RPI peak in 2022, before easing more recently.¹

One way to manage this is to ensure fixed costs are covered, so increases have less impact on discretionary spending. Inflation-linked annuities can help provide that protection, while another option is buying annuities in stages to benefit from higher rates as you get older.

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