What is an immediate needs annuity & how does it work?

Updated 14 December 2021

5min read

Nick Green

Financial Journalist

Updated 14 December 2021

5min read

An immediate needs annuity is one way to provide funding for long-term care in your old age. It can provide greater peace of mind than you might have when funding care from cash reserves, as the income is guaranteed so can never run out while the person being cared for is alive. There are also some tax advantages compared to an ordinary annuity. However, there are also some potential downsides.

Here you can find out more about immediate needs annuities and how they work, to help you decide whether one would be suitable in your circumstances.

How does an immediate needs annuity work?

One of the main challenges of funding care is simply not knowing how long it will be needed. Annuities remove that uncertainty by providing a regular retirement income payment for as long as you need it, if you’re receiving care.

An immediate needs annuity (also called an immediate care annuity or a care fee plan) works in a similar way to an ordinary annuity, except the income goes directly towards the cost of your care. The advantage of doing this is that it then doesn’t count as your income, so is not subject to income tax. In this way, it can deliver higher sums to pay for your care than you might be able to achieve with an ordinary annuity.

Because of 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).

Who typically gets an immediate needs annuity?

A person taking out an immediate needs annuity will usually (as the name implies) 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, but might 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 end up proving very expensive over the long term. It is a way of safeguarding against the risk of running out of money and having to rely solely on the state (which is usually inadequate).

What do I need to 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. 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 an independent financial adviser (IFA) 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

The outcome of all these factors will be an annuity rate. This rate will be applied to the amount you pay for the annuity. So for example, if after assessing your age and health, the provider offers you an annuity rate of 20 per cent, and you pay £100,000 for the annuity, then 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 end up benefiting by more money than you paid for the annuity – because the money will continue to be paid out for as long as you live.

What are the benefits of immediate needs annuities?

There can be significant advantages to keeping back some of your pension pot to purchase a care fee plan in later life. 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
• The burden on the rest of your estate will be reduced (potentially leaving more for your family to inherit, though not necessarily)
• The money from the immediate needs annuity won’t be taxed (if it goes directly to a UK registered care provider), making it superior to 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 sum to your beneficiaries if you die before a certain age (thus reducing the risk of wasting your money)

What are the drawbacks of an immediate needs annuity?

Of course, care fee plans may have disadvantages too. For example:

• Although your provider may offer you a cooling-off period (usually 30 days) after buying the annuity, in which you can change your mind, after this period your decision is final.
• Your care fee plan may not be sufficient to cover all your care costs, especially if the costs of your care rise significantly (e.g. in response to your changing needs)
• 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. First, check whether you are eligible for NHS funding or 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

All of these have pros and cons. Using ordinary pension or annuity income means you may lose 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.

Can I change my mind about an immediate need annuity?

Usually a provider of care fees plans 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. Theoretically there is no limit – 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 fees plans you may be offered a lump sum payment to your beneficiaries if you die within a certain time period. Talk to your financial adviser about this.