How to Compare Top Immediate Annuities

In the aftermath of the great financial meltdown, from which few investors escaped unscathed, immediate annuities have taken center stage as the lead role in the unfolding drama of economic uncertainty. Just as they did in the turmoil of the Great Depression, immediate annuities are, once again, emerging as a bastion of income security for people concerned with their financial futures. Today the challenge for investors is to be able to wade through the vast marketplace of annuities that are available to find the top immediate annuities. So many choices, and yet, so little time.

Life insurance companies have done their best to meet the increasing demand for income security, so much so that there are now dozens of immediate annuity products from which to choose. That can be very intimidating for most people. The good news is that most immediate annuities from the top providers are very similar in their structure and their options, so , once you narrow the field somewhat, it is easy to compare between them.

Comparing Immediate Annuity Features

Immediate annuities really serve only one purpose, albeit a very important one, and that is to convert a lump sum of capital into a guaranteed stream of income for a specific period of time, or for life. From one annuity to the next, the mechanics for accomplishing this are the same. A life insurer takes your deposit and invests it in its own portfolio of bonds to generate interest. Based on an assumed rate of interest, the insurer then calculates how much income can be paid out for the desired period of time. The income received is partially a return of your original capital and interest earned.

If the desired period of time is for your lifetime, the insurer uses mortality tables to determine your life expectancy which is then divided into periodic payments. The income payment is calculated to payout all of your capital plus the earned interest by the end of the payment period. If you live beyond your life expectancy, the life insurer is obligated to continue the make periodic payments for as long as you live. This is the income longevity insurance you pay for when you purchase an immediate annuity. If you die prior to the end of the payment period, the life insurer retains the annuity balance.

If you are married, you can structure the annuity to guarantee an income payment on both lives, so that, when one of you dies, the surviving spouse will continue to receive the payments for life. If you want your heirs to benefit from your annuity after you both die, a refund option can be selected that will pay the remaining annuity balance to your beneficiaries through installments. The base income payment is reduced by a certain percent to cover the cost of protecting the additional life.

Additional options are available that can enhance the income benefit. For instance, an inflation option will adjust the income payments based on an inflation index. Another option is available that will accelerate income payments is needed for paying long term care expenses. All options add to the cost of the annuity and are paid for with deductions from the base income payment.

Because all immediate annuities are structured in much the same way, the only comparisons to be made are the payout amounts that can be generated from a specific amount of capital, or the amount of capital required to generate a specific payment amount. Given your age and the specified time period for payments, a life insurer will be able to give you a quote based on an amount of income needed, or an amount of capital to be invested. From that standpoint, it is pretty much a straight across comparison. Additional comparisons can be made for joint life annuities as well as for any options that are added.

The challenge you face when trying to compare immediate annuity payouts, is that there so many products to compare. By adding one simple criterion you can quickly narrow the field for a more manageable comparison. If you limit your comparison to just those life insurance companies that are deemed the strongest and most stable by the independent rating firms, your field can be reduced to just 10 or 15 in a hurry.

The best reason for using financial ratings as a selection tool is that, the financial backing of the issuing life insurance company is, perhaps, the only true comparative feature. Put it this way. If the difference in payout between the most competitive insurer and the least competitive insurer is less than 5%, is it worth the restless nights to choose an insurer that, in the opinion of industry experts, could face financial troubles in the future? Remember, with immediate annuities, you are buying sleep insurance.

It is important to keep in mind that, once your capital is turned over to the life insurer, it cannot be returned except in the form of period payments. Therefore, it is advisable to choose the stronger companies even if you have to sacrifice $50 a month in income. Not to worry though; among the fifteen most highly rated companies, you will find very competitive payout rates.

Summary

Immediate annuities are unparalleled in their ability to provide peace-of-mind through a guaranteed stream of income that cannot be outlived. And, while the payout rates do vary, some being more competitive than others, the true comparative feature is the underlying capability of the life insurer who issues your annuity to be there for as long as you need. Although, life insurance insolvencies are few and far between, why risk even the slightest possibility when the top immediate annuities can be found among the top life insurers.


Understanding Immediate Annuities

With all of the attention being given to variable and indexed annuities in recent years, the patriarch of all annuities, the immediate annuity, has gotten lost in the shuffle. Yet, perhaps at no time in its long history has its importance to retirement planners been greater. With more people approaching retirement with concerns over outliving their income, immediate annuities are suddenly in demand again. Understanding immediate annuities would be important for any person who is seeking a secure retirement income that can’t be outlived.

Immediate Annuity Overview

For as long as history has been recorded, annuities have been used by governments and financial institutions to provide people with a secure income in exchange for a lump sum of money. The governments of ancient Rome, and European powers such as England and France, used the capital raised from annuities to funds wars and major construction projects. Later, annuities were institutionalized by life insurance companies in the U.S. as a financial instrument offered to the public.

Immediate annuities are so named because they provide an immediate source of income for investors who deposit a lump sum of money. Investors enter into a contract with a life insurer that obligates the insurer to make period payments for a specific period of time, or for the lifetime of the investors. The investors’ capital is irrevocably turned over to the insurer so that it can fulfill its contractual commitment.

Immediate Annuity Mechanics

When an investor deposits a lump sum of money with a life insurer, the insurer commits to making period payments for the period specified by the investor. The insurer then makes a calculation to determine the rate at which payments will be made. The key factors used in the calculation are the current age and life expectancy of the investor, as well as the projected interest rate that will credited to the annuity balance. The resulting payout rate establishes the amount of income that will be paid so that, by the end of the payment period, the entire annuity balance will have been returned to the investor plus interest.

Determining the Payment Period:

The payment period may be a specified period of time, such as 15 years, or it may be the life expectancy of the investor. If, at the time of the deposit, the insurer determines that the investor’s life expectancy is 25 years, then that becomes the payment period. The significant difference between using a specified period versus a lifetime period is that, if the investor, or annuitant, lives beyond his or her life expectancy, the life insurer is still obligated to continue the payments until the actual death of the investor. This is insurance aspect of an annuity in which the life insurer assumes the risk of the investor living too long.

How the Length of the Payment Period effects the Payout:

Since the payout rate is based on both a return of principle plus an assumed rate of interest, the rate is directly affected by the length of the payment period. The shorter the period, the higher the payout rate because more of the principle balance will need to be returned more quickly. This is one reason why some retirement planners will recommend delaying the income payments from an annuity for as long into retirement as possible.

Tax Aspects of Annuity Payments

When an annuity payment is received, it is taxed as ordinary income to the extent that it consists of earned interest. The portion of the payment that is a return of principle is not taxed.

Annuity Payments after the Death of the Annuitant

In its simplest form, the payments are made to an annuitant as a single life, so that, at the death of the annuitant, the payments simply stop and the life insurer retains the annuity balance. If the annuitant is married, and the annuity is titled as joint life, then the payments would continue until the death of the second annuitant. The payout rate is reduced by a percentage to cover the risk of the additional life. Even in that case, the insurer would retain the annuity balance unless a refund option was selected.

Refund Options:

If the annuitant would like to have the account balance proceeds paid to a beneficiary, then a refund option can be selected which would pay the proceeds in installments. Refund options can be selected for varying periods in which, if death occurs the beneficiary would receive the proceeds. For instance, if a refund option for a period certain of 10 years is selected, death must occur within that 10 year period for the refund to be paid to the beneficiary. A lifetime refund option could be selected as well, but the length of the refund period will affect the payout rate. The longer the refund period is, the lower the payout rate.

Other Payment Options

Because annuity payments are fixed at the time of annuitization, the income can eventually lose its purchasing power over time due to inflation. Many immediate annuity contracts include an option for adding an inflation rider with will link the payments to an inflation index. The charge for this rider reduced the current payout rate.

Behind the Life Insurer’s Obligation

The obligation of a life insurer to guarantee a lifetime of income is one in which investors must be able to have complete faith. For retirees, financial security is paramount and it is something that they can’t afford to risk. With immediate annuities, life insurances guarantee both the annuity balance and the stream of income payments. Life insurers have been fulfilling their annuity obligations for two centuries without an incident of principle loss for any annuity owner. This record of safety is due primarily to the way lie insurers are structured and the strict regulations by which they are required to conduct their business.

Life insurers are required by their state regulators to maintain a reserve of liquid assets that would be able cover all of their future obligations. The state’s monitor these reserve levels each year to ensure that the requirements are met. Additionally, each state has a guarantee fund that will reimburse annuity owners for the loss of their annuity account balance up to $250,000(in some states), much like the FDIC insurance covers bank deposits.


How to Find the Best Immediate Annuities

People buy immediate annuities for one main reason: They want a secure and guaranteed stream of income for some specified period of time, or for a lifetime. Such has been the purpose of annuities for hundreds of years. In exchange for a lump sum of money, they expect to receive periodic payments that include both a return of their principle plus interest. And for those who opt for lifetime payments, they expect to receive them for as long as they live. For such serious expectations, finding the best immediate annuities should begin with finding the companies that are best positioned to meet them.

Why Size Matters

We’re referring to the size of the financial position of the life insurance company that issues your immediate annuity. Here’s why it matters: Essentially immediate annuities are a promise. More specifically, they are a contractual obligation between a life insurer and an individual in which the insurer promises to pay the individual a specific amount of money for a specified period of time in exchange for a lump sum of money.
If it is for the life of the individual, the payment period is open-ended, lasting for as long as the individual lives. Once the lump sum of money is received by the life insurer, the individual loses all access to it except in the form of the promised periodic payments, so that obligation becomes very important.

In the end, that obligation, which comes in the form of a guarantee, is only as solid as the financial condition of the life insurer that backs it. While it is true that, in the history of the life insurance industry, there has yet to be an instance in which an annuity recipient failed to receive his or her payments, there have been some instances of life insurance insolvency.

To the credit of the industry, when that has happened, it has been the stronger companies that have come in to rescue the troubled companies and their annuity owners. So, with so much at stake, why not simply invest your money with the strongest of the life insurance companies? Aren’t the best immediate annuities the ones that will be able to pay even in the worst of times?

How Life Insurers Deliver on the Promise

When you understand how immediate annuities work, it’s easier to develop an appreciation for the strong company theory. When a lump sum deposit is made, the life insurer takes it and invests it in its general account. Then, applying some actuarial assumptions, it calculates the amount of the periodic payment which, for fixed annuities, are set and guaranteed for the entire payment period.

The payment is calculated so that the entire principle balance is paid out along with earned interest by the end of the payment period. If the payment period is for a lifetime, the number of periodic payments is based on the life expectancy of the individual. If the individual lives beyond his or her life expectancy, the periodic payments continue, unchanged, until he or she dies, thereby extending the life insurer’s obligation.

Going for Payout

For the most part, the competitive feature of immediate annuities is the payout which is the amount of income that its actuarial assumptions will produce for the specified period of time. Quite simply the payout can be compared apples-to-apples from one company to the next. Given the age of the individual, the number of payment periods, the amount of original principle and a projected rate of interest, the income payment is calculated for a single life annuity. These same parameters can be given to any immediate annuity provider and they will be able to quote a payout. Certainly, it would make sense to search for the annuity with the highest payout (with important consideration for the financial quality of the provider).

If the annuity is to cover two lives, those of a husband and a wife, a joint life payout is reduced by a percentage as the cost for insuring the additional life. Some annuity providers will quote more competitive payouts on their joint life annuities than on their single life. Additionally, if a refund option is added, in which all or a portion of the remaining principle is to be refunded to a beneficiary, the payout is reduced further, and some providers are more competitive with these payouts than others.

Additionally, certain options, such as inflation protection which links the payout rate to an inflation index, would be important to consider. The cost of these options is paid deducted from the initial payout rate, which can be compared from one company to the next.

Summary

The bottom-line is to know exactly what you need your immediate annuity to be able to do for you, apply the same parameters to the top life insurance companies and compare them side-by-side. As long as your search is restricted to the more highly rated companies, your comparisons can then focus on the payout rate. The best immediate annuities are the ones that pay you well while giving you the greatest possible peace-of-mind.