What is an immediate needs annuity, and how does it work?

An immediate needs annuity is one way to provide funding for long-term care in your old age.

If you pay for care fees from cash reserves, there’s a chance your money will run out before you die. But, with an immediate needs annuity, payments will be guaranteed, however long you live.

This means they can provide you with greater peace of mind.

There are also some tax advantages compared to an ordinary annuity. 

However, there are also some potential downsides.

In this guide we explain what you need to know about immediate needs annuities and how they work, to help you decide if one would be suitable for your circumstances.

How does an immediate needs annuity work?

One of the main challenges of funding care is that it’s impossible to know how long you’ll need it for.

An immediate needs annuity (also called an immediate care annuity or a care fee plan) removes that uncertainty by providing a guaranteed income to cover your care bills for the rest of your life.

They work similarly to an ordinary annuity, except the income is paid directly to your care provider.

Payments also don’t count as income, so are not subject to income tax. This means they can deliver higher sums to pay for your care than you might be able to achieve with an ordinary annuity.

Due to the way an immediate needs annuity works, you can only buy one if you are receiving care (or due to receive care soon), as a nominated care provider must be made the recipient of the money paid out.

Otherwise, you buy an immediate needs annuity in a similar way to an ordinary annuity by using a lump sum (usually taken from your pension pot).

If you end up moving to a different care home at some stage, the plan should be transferable too.

Who typically gets an immediate needs annuity?

As the name implies, a person taking out an immediate needs annuity will usually be in immediate need of long-term care.

This might be in a residential care home or nursing home, but equally it might be care in their own home. It needn’t be round-the-clock care, and it could be as little as a few visits per month.

More typically, this kind of annuity will be used to pay for large amounts of regular care that might be expensive over the long term.

It is a way of safeguarding against the risk of running out of money.

What must I do to buy an immediate needs annuity?

When choosing a care fee plan, your first step should be finding a financial adviser who specialises in long-term care planning.

This is a specialist area where experience can make a lot of difference, so be sure to customise your search on Unbiased.

Your adviser will consult with you personally, remotely if necessary, to assess your needs and circumstances, and all the factors which may influence the kind of annuity rates you are likely to be offered.

You can have your family involved if you wish.

This bespoke approach could save you a lot of money over the course of your care.

Your adviser will then help you choose an annuity provider. They may come up with a range of options or recommend one in particular.

If you are using a financial adviser, then they will act solely in your best interests – so if they suggest one particular provider, you can generally rely on that recommendation. You’re always entitled to ask to see alternatives, however.

The next step should be a medical assessment to determine your state of health and life expectancy, which will help the annuity provider to decide what rate to offer you.

How much does an immediate needs annuity pay out?

The amount of money paid out by an immediate needs annuity will depend on various factors, including:

• Your age

• Your state of health

• Your medical history

• Your provider’s annuity formula

• Current and future care costs

The outcome of these factors will be an annuity rate, which will be applied to the amount you pay for the annuity.

For example, if after assessing your age and health, the provider offers you an annuity rate of 20%, and you pay £100,000 for the annuity, you would receive £20,000 a year directly towards care costs.

If you were to live longer than five years from this point, you would benefit from more money than you paid for the annuity, as the money will continue to be paid out for as long as you live.

However, if you died sooner, you would get less back than you paid.

Immediate needs annuity rates are higher than regular annuity rates, because the applicant will be in poor health and have a short life expectancy.

What are the benefits of immediate needs annuities?

There can be significant advantages to purchasing a care fee plan:

For example:

• You and your family will have peace of mind that your care costs will be at least partly covered for as long as you need.

• An immediate needs annuity lets you ring-fence other assets from care costs, potentially increasing the sums you eventually pass onto loved ones.

• The money from the immediate needs annuity won’t be taxed (if it goes directly to a UK-registered care provider), making it more tax-efficient than a regular annuity.

• Most plans pay out a sum that rises at a set rate to combat inflation.

• You may be able to get a plan that pays a lump sum to your beneficiaries if you die before a certain age (reducing a potential financial loss if you die earlier than anticipated).

• An immediate needs annuity may give you some bargaining power with care homes - for example a cap on price increases.

What are the drawbacks of an immediate needs annuity?

Of course, care fee plans may have disadvantages too.

For example:

• Payments stop when you die. If you die sooner than expected, your family will not normally get any money back.

• After the cooling-off period has passed (typically 30 days) the plan is not reversible.

• Your care fee plan may not be sufficient to cover all of your care costs, especially if they rise significantly.

• If the payments from your annuity are above a certain level, your entitlement to other means-tested state benefits may be affected.

If you don’t need to pay for care immediately or you think you may only need it for a short period, then an immediate needs annuity may not be right for you.

It’s also a good idea to check whether you’re eligible for NHS funding and explore other pension options.

Immediate needs annuity FAQs

What are the alternatives to an immediate needs annuity?

Instead of buying a care fees plan, you could:

• Draw money from your pension pot (which will be taxable).

• Use an ordinary annuity.

• Release equity from your home.

• Sell your home (if going into residential care) and draw on the lump sum.

• Find out if you are eligible for NHS Continuing Healthcare (CHC), which could fully cover your care costs if you have significant ongoing healthcare needs.

All of these have pros and cons. Using ordinary pension or annuity income means you may pay more in tax, whereas money from your home will eventually run out.

Ultimately, it all depends on how long you end up living and needing care. If you live a long time, a care fees plan can prove excellent value.

If you die within a short time, it may end up being very poor value. This is why the decision can be such a difficult one and why professional advice can be so helpful.

Can I change my mind about an immediate needs annuity?

Usually, a provider of a care fees plan will give you a 30-day cooling off period in which you can change your mind. However, after this time, your decision is final and you can’t get any refunds.

How often will I receive payments?

This depends on the specific product and provider, but you should be able to choose between weekly, monthly and even quarterly payments.

Can I protect my immediate needs annuity against inflation?

The cost of care is unlikely to remain stable, and will rise with inflation over time.

Some providers will allow your retirement income to increase by a fixed percentage or in line with inflation. Otherwise you will have to front the additional costs yourself.

What happens if I die before all my immediate needs annuity is paid out in income?

It’s important to remember that an immediate needs annuity is not a pot of money - it’s an insurance policy. Theoretically, there is no limit to how long it could pay out – if you live to be 120 or more, the annuity will still pay out.

But whenever you die, the payments stop.

The lump sum you paid for your annuity is gone, so you don’t get this back. However, with some care fee plans, you may be offered a lump sum payment for your beneficiaries if you die within a certain time period.

You should talk to a financial adviser if this is a concern.

Get expert financial advice

An immediate needs annuity can be a practical solution for covering long-term care costs, as it provides a reliable income and peace of mind.

It also ensures you have the financial support you need for care, no matter how long it’s required for.

As you consider your options, it’s essential to evaluate how this choice fits with your overall financial plan and explore alternatives to make the best decision for your future.

Unbiased can quickly match you with a financial adviser for expert financial advice tailored to your specific needs to help you navigate the complexities of funding long-term care and find the best solution.