At retirement, a person is often faced with a difficult decision: What type of annuity should they buy to get an income in retirement? There are many types of annuities that are available in the market.
|Guaranteed Annuities||Living Annuity|
|Level Annuities||Wide choice of options available to you.|
|Guaranteed life annuities|
We will briefly discuss the various options.
1. Level annuities
This is what they call a standard annuity policy. The insurer takes the lump sum amount and in return promises to pay an income to you for the rest of your life. The advantage is that it will pay for the rest of your life even if you live beyond 100! The insurer takes the risk in making sure that they can provide you with an income until you pass away.
The disadvantage is that it is a fixed income for the rest of your life and does not increase every year to consider inflation. Hence, there is an inflation risk in this option. Another disadvantage is that when you pass away, there will be no money left over to pass to beneficiaries.
2. Escalating annuity
This is also a standard annuity policy. The only difference is that the income will increase by a specified percentage each year. In this case, the inflation risk is passed to the insurer. Entering into this type of annuity will be a bit more expensive. The advantage is that the income is protected against inflation risk unless it is below the inflation rate. The disadvantage is that there will be no money left over to pass to beneficiaries when you pass away.
3. Guaranteed annuities
With this type of annuity there is often a guarantee period which is selected. This means that the income that is payable from the annuity will be payable for the full guaranteed period whether you are alive or not.
Considering the guarantee period, this type of annuity will cost you more to buy compared to those mentioned before. The advantage of this option is that if you pass away shortly after buying the annuity, the income will still pay out to beneficiaries for the guarantee period. The disadvantage is that if you pass away after the guarantee period, there will be no money left over to pass to beneficiaries.
4. Joint annuity
This type of annuity is often used to include spouses. What this means is that the last surviving member of a couple will have an income for life. When you pass away your spouse will have an income for life. This option will come at a cost due to the risks being taken over by the insurer. The advantage is that the benefit continues to pay after your death until the death of your spouse. However, when you and your spouse pass away there will be no benefit left over to pass to beneficiaries.
This type of annuity is the total opposite of a life annuity. In this case, you purchase the annuity with a lump sum amount. When doing so, you get to select an investment portfolio that the money should be invested in. You then get to select the level of income that you would like to draw from the annuity (between 2.5% and 17.5%) per annum. You can select the frequency of income payment (monthly, quarterly, yearly).
Unlike the options discussed before, no insurer takes over the risk of having to provide this income for the rest of your life. You take all the risk. Everything is within your control subject to the legislative limits. The advantage is that when you pass away, whatever money is still available can be passed over to beneficiaries. The disadvantage is that you could outlive your money, in which case the income will stop at some point.
Please make sure that you speak to a financial adviser when deciding on what type of annuity to purchase. Various other factors must be considered, such as tax and succession. This decision should be part of a holistic retirement plan which a financial adviser can help with.
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