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So far, we have been talking about an annuity where when you die, the payments stop. But the payments continue for as long as you live. There are two other 'Settlement Options'. The first settlement option is the 'Straight Life' option. This is the one we have been discussing. With this option, you get paid for the rest of your life. And when you die, the payments stop. If you're one of those people who will live to be 100 + years old, you will have beaten the insurance company. If you're one of those people who die a year or two after retirement, the insurance company wins. Remember, with this option the insurance company keeps whatever payments it doesn't have to make to you. If you live an expected life span, which most people do, you get a fair deal and the insurance company gets a fair deal. If you want to bet against the mortality tables, go ahead. Remember that you choose your settlement option when it comes time for you to begin payouts. An alternative to the straight life gamble is 'Life Annuity With Period Certain'. With this option you still receive annuity payments for life. However, you and the insurance company decide on a certain amount of years in which the annuity is guaranteed. If you don't live that long, the annuity will continue to be paid to a stated beneficiary. For example, you buy a life annuity with 10 years certain. You die 6 years after the payout begins. For the next 4 years a stated beneficiary will receive the annuity payments. Conversely, if you buy a life annuity with 10 years certain and you live for 25 years after |
the annuity starts paying, the beneficiary will receive nothing. The monthly payout is less with a period certain annuity. This is because you are asking the insurance company to guarantee payments even if you die. Since the insurance company has anticipated some people dying early, the insurance company charges (in the form of reduced payments) for this benefit. The investor receives a lower return for accepting lower risk. The third option is called 'Joint and Survivor Annuity'. With this option, the annuitant will receive his annuity payments for as long as he lives. Upon his death, a percentage of his annuity will continue to be paid to a beneficiary for as long as they live. The percentage can be as low or as high as you want and which the insurance company offers. 50% is a common percentage for this. The theory behind this is that when a husband dies, his wife will require less than they were previously getting. Of course this benefit comes with a price. The payout is lower than any of the other two previously mentioned. A fourth option, and one which is not chosen frequently, is the Lump Sum Payout. With this payout, the annuitant receives on lump sum payout. The drawback is that taxes have to be paid on this. And they are taxed as ordinary income. When an annuitant chooses the monthly payout options, the amount of each monthly payment that represents accumulated earnings that have not yet been taxed, are taxed. The IRS has a formula for determining how much of each monthly payment should be taxed. |
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Last modified: January 20, 2001