Annuity

Features of a Guaranteed Annuity

Guaranteed annuities offer you an income for life in return for a single premium. You have the guarantee of a stream of future income for life therefore never having to worry about running out of income during your lifetime. The insurer carries the investment risk of ensuring they have sufficient funds to pay you for the rest of your life. Life annuity rates used mainly depend on 2 factors: Effect of interest rates: The higher the long-term interest rates when you purchase the annuity, the higher the income amount and vice-versa. Effect of the period of payment: i) The shorter the expected period of payment, the bigger the income and vice versa. ii) Life expectancy differs for males and females. iii) Factors which entail a longer expected period of payment, such as a guarantee term or survivor’s income, will mean a lower monthly income.

Guaranteed Annuity types:

The type of annuity you select will determine the income you will receive. An annuity on the life of one person without any minimum guaranteed payment term and without any yearly growth in annuity income will secure the largest annuity income. If you buy the annuity on more than one life, add guaranteed minimum terms or increase your yearly annuity income, the product providers risks increases and the annuity income will be adjusted downwards. The choices you have to make when you buy a guaranteed annuity are: Single-life or Joint-life annuity option: You can receive an annuity calculated on your life alone or you can choose to receive this annuity calculated as part of a joint-life annuity. This form of annuity provides income to your spouse or children upon your death and therefore also provides a form of death benefit, but paid in regular amounts. This helps manage your dependant life risk. Guaranteed Term annuity option You can choose to receive this annuity for a fixed minimum period, irrespective of whether you survive that period. This therefore allows income to be generated for a minimum period to benefit your family if something happens to you before this minimum period expires. When you survive this minimum period, the payment is then made to you for the rest of your life. Again, this feature gives you an added control of your dependant life risk. The above features show the benefits of managing long life risk and also to provide a protection benefit to your family members. However, another important issue that comes up with this product is the form of the payment that you want to receive for the rest of your life. These can currently come in 4 forms:   Level annuity: You will receive a fixed and level payment for the rest of your life. This is the cheapest form of annuity product because there are no changes to your payment stream and it is guaranteed for the remainder of your life. This form does not give you protection from inflation risk because over time, the prices of goods and services increase but your income remains constant. Fixed increases annuity: You shall receive payments which increase annually at a fixed percentage chosen by you at the start. This form of annuity allows you to choose the percentage at which your payments can increase and therefore allows you some inflation protection. You will encounter inflation risk, if the rate of inflation is higher than the fixed increase that you chose at the start. Inflation-linked annuity: You will receive payments which increase annually at the rate of inflation in the economy. This therefore reduces inflation risk considerably. Most annuities of this type offer a minimum increase of 0% so your annuity will not decrease if deflation occurs. Discretionary growth annuity: You will receive a guaranteed minimum payment that increases annually at a growth rate decided by the insurer. This growth rate is based on returns earned by investing your single premium in attempting to offer you growth in your income each year. You still face inflation risk if the growth declared by the insurer on your income is less than the rate of inflation applicable at that time. Your growth is also dependant on the underlying assets that are used to generate this growth on your income.

Summary of Guaranteed Annuity:

In summary, guaranteed annuities offer you an income (in various forms) for the rest of your life (or your spouse’s/children’s lives) for a possible minimum guaranteed period. It allows you to control your long life risk and inflation risk as well as providing protection benefits for your family upon your death. The main disadvantages of this product is that there is very little flexibility when it comes to the income that you want to receive after you’ve purchased this product because as your circumstances change, you cannot change your benefits and in a low interest rate period your annuity will buy a smaller income (pension) than buying it in a higher interest rate period. Another important restriction on this product is that you are not allowed to surrender your policy unless you provide proof of transferring to another insurer or provide proof of good health to the insurer.

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Annuities

guaranteed annuity

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