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HMRC internal manual

Pensions Tax Manual

Member benefits: pensions: drawdown pension rules applying from 6 April 2015: a short-term annuity from 6 April 2015

Glossary PTM000001

Conditions for a short-term annuity 
Benefits through a short-term annuity 
Taxation of a short-term annuity


Paragraph 6 Schedule 28 Finance Act 2004

The Registered Pension Schemes (Transfer of Sums and Assets) Regulations 2006 - SI 2006/499

As long as the scheme rules allow it, a member may use funds that have been designated as available for the payment of drawdown pension to purchase a short-term annuity which will provide a guaranteed income stream during the term of the annuity.

With a short-term annuity contract the member’s annuity is paid by the insurance company rather than, as for income withdrawal, directly from their drawdown pension fund.

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Conditions for a short-term annuity

Section 165(3) and paragraph 6(1) Schedule 28 Finance Act 2004

The Registered Pension Schemes (Transfers of Sums and Assets) Regulation 2006 - SI 2006/499

Where a member becomes entitled to a fixed-term annuity on or after 6 April 2015, it qualifies as a short-term annuity for the purposes of the tax rules if it is:

  • purchased by the application of sums or assets representing all or part of the member’s drawdown pension fund
  • payable by an insurance company and
  • payable for a term not exceeding 5 years.

The member becomes entitled to a short-term annuity when they first acquire an actual right to receive the annuity. The tax rules do not limit the circumstances in which a short-term annuity purchased on or after 6 April 2015 can be reduced. Any restriction is purely a matter for agreement between the parties to the short-term annuity contract.

Where there is a transfer of a short-term annuity that was in payment before 6 April 2015 and so is subject to restrictions on when the annuity can decrease, special rules apply in respect of the new short-term annuity (see PTM105000 for details).

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Benefits through a short-term annuity

The maximum term of a short-term annuity at outset is five years. The annuity does not have to come to an end when the member reaches age 75.

A short-term annuity may be guaranteed to continue making payments for a set period not exceeding five years, so that even if the member dies during this period the annuity contract will continue to make annuity payments until the end of the term of the contract.

Apart from such guaranteed annuity payments, a short-term annuity contract cannot provide a benefit after the member’s death.

If the short-term annuity was purchased on or after 6 April 2015, the amount can decrease from year to year. If purchased before that date, please see PTM062620.

If purchased from a flexi-access drawdown fund, there is no upper limit on the amount a short-term annuity can pay. However, where a short-term annuity is bought using funds from a capped drawdown pension fund there is an upper limit on the amount of short-term annuity that can be paid. The amount payable from a short-term annuity contract plus the amount of any income withdrawal from the capped drawdown pension fund in a pension year cannot be more than the maximum drawdown pension (see PTM062620).

If the member is taking capped drawdown (see PTM062520), but not otherwise, their maximum drawdown pension will be reviewed

  • at least every three years if they are under 75, and
  • every year when they are 75 or older.

So, in considering the length and amount of a short-term annuity contract the member may buy, they need to remember that their maximum drawdown pension could change part way through the term of the annuity. If their maximum drawdown pension goes below the amount payable by their short-term annuity contract the excess amount will be an unauthorised payment.

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Taxation of a short-term annuity

Section 165, pension rule 4, Finance Act 2004
Section 579A Income Tax (Earnings and Pensions) Act 2003

Drawdown pension (which includes a short-term annuity and income withdrawal) is a form of pension for tax purposes and so is chargeable to income tax as pension income. The member receiving the short-term annuity is liable for income tax on the annuity payments at their marginal rate in the tax year in which they are paid. The scheme administrator is required to deduct income tax from the annuity payments, under the PAYE regulations.