An Immediate Life Annuity Returns Assurance and Potential Earnings
by Shane Flait, ©2010

An immediate life annuity can be a good investment against outliving your money – a very real issue for retirees. That’s because it offers two returns – assurance of an income for the remainder of your life, and the possibility of earnings higher than you could get elsewhere if you live long enough. This article shows you how to figure your possible earnings aside from the assurance of never running out of money.

A fixed immediate life annuity pays you until you die. It’s a unique investment offered by annuity companies. More accurately, it’s a contract you make with an insurance company to pay you a fixed monthly payment for the remainder of your life for a given premium. Your premium becomes the insurance company’s money. But how can you evaluate your return on your premiums?

Your financial situation may make an immediate annuity the best investment for you

 What investment advisors sometimes forget is that the assurance of receiving a lifetime income – no matter how long you live – is a very real return. This is especially so if you can’t live off just the annual earnings of your savings. If that’s the case then depending on what you’re yearly income need is and your remaining life expectancy you may deplete your savings before you die.

 If that’s your situation, you may be better off buying an immediate life fixed annuity. For a given premium payment, you’d receive a fixed monthly income for as long as you live. And the older you are when you begin your immediate annuity, the higher is your monthly payout because you’re remaining life expectancy decreases with age.

Evaluating your annuity’s return

Just being assured of receiving a monthly income for life that can sustain your living expenses is a return in itself – the ‘assurance return’. You don’t have to worry about outliving your savings.  

The financial return, beyond this ‘assurance return’, on your premium really depends on how long you live. Often for lower remaining life expectancies, you may not receive your premium’s worth of monthly payments if you live only to the remaining life expectancy when you started it.

In fact if you just lived long enough to collect what you paid for your premium, your earnings would be zero; if you lived less time than this, your earnings would be negative. But that doesn’t make them a bad investment since the ‘assurance return’ is important too. Nevertheless let’s see how your financial return grows if you live longer than expected.

Take a man who’s 75 and has a remaining life expectancy of about 10 years. If he compared the interest rates he could earn on his life annuity with those of a fixed 10 year term annuity, he’d probably find the interest rate for the life annuity to be smaller. That’s because the life annuity presents more risk to the insurance company than the fixed term annuity – which guarantees his premiums and some earning paid to him over that term – no more or less.

Nevertheless, living longer than your remaining life expectancy eventually returns more than your premium. That translates into having earned a higher interest on your premium; each year longer you live increases your earnings. 

Let’s suppose – as an example – that the life annuity pays the 75 year old man $833.50 per month (i.e. $10,000 per year) for a $100,000 premium. At 10 years (at 85 years old) he’s received back only his premium- so no earnings received. But each year he lives longer, his payments will be in excess of his premiums. So they can be considered as earnings on his premium investment (as if he were investing in bonds).

So if the 75 year old lived 15 years rather than the 10 years expected, he’d have received 50% more than the $100,000 premium which equates to almost 6% annual earnings. That’s not a bad investment. And the longer he lives the higher will be his equivalent annual earnings.

That’s how those ‘potential’ earnings can really increase overwhelming other more conventional investments.

Shane Flait is a writer and educator. Get more info at www.EasyRetirementKnowHow.com