What is a Life Annuity?

What is a Life Annuity?

Annuities are primarily designed to pay a substantially similar sum at regular intervals until the annuitant dies. Life insurance companies write these contracts since they are designed as a kind of longevity insurance.

A lifetime income annuity, sometimes called a life annuity, is a stream of guaranteed payments for the duration of the annuitant’s life, based on the sum used to purchase the lifetime income and the age of the annuitant at the time of purchase. Life annuities can also be joint-life, meaning the contract will pay an amount to either of two people as long as one is alive.

These are similar to traditional pensions, but employers do not fund the contract, or, in cases where they do, they pass the longevity risk to the insurance company instead of bearing it themselves. The payment could be the same for the duration, or it might start out a little lower and increase with an interest rate or inflation.

The way the company calculates the payment is similar for all life insurance companies, but the payout will be different depending on how their fixed portfolio and the risk that they are prepared to take. Be warned that in some cases companies will promise higher payout rates when they are mostly trying to raise capital, and that company may not be around for 30 year or however long you may live.

The payout is based on life expectancy because 50% of annuitants will die before that and 50% will die after that. Those who die before may leave a death benefit, which will generally be any remaining principal, for their beneficiaries.

Those who outlive their life expectancy will benefit from a pool of money that keeps their income stream flowing. This pool is mostly based on the amount of earned interest left on the table by those who died earlier, and it is sometimes called a mortality pool.

People like the guarantees and security it brings even though they will almost surely spend down their principal amount. Ideally these would be purchased with less than half of a person’s available retirement assets, unless they were definitely going to run out of money anyway.

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