Strictly speaking, annuities are not life assurance contracts because such contracts do not base on the longevity of a man’s life. The element of risk coverage is not there; that is to say, the policy does not pay a capital sum on a man’s death. This is not even the intention of the annuitant, either.
Instead, it would be seen that normally payments are rather stopped on the annuitant’s death. This is why normally it is said that the more and more impaired an annuitant’s life would be, the more favorable term he would receive from the insurers.
Even though annuities are not life assurance contracts, nevertheless, life offices conventionally issue such contracts.
Definition of Annuity
An annuity is a contract between the insurance company (i.e., the party granting the annuity) and the annuitant (receiver of the annuity) whereby in consideration of the payment of a purchase price by the annuitant, the other party (i.e., the insurance company) undertakes to make a yearly or annual payment to the annuitant from a certain predetermined time until the annuitant’s death or for a fixed period.
An annuity is a periodical level payment made in exchange for the purchase of money for the remainder of the lifetime of a person or for a specified period.
The recipient is usually an annuitant. In annuity contract, the insurer undertakes to pay certain level sums periodically up to death or expiry of the term.
Since, at the early death, the insurer does not suffer loss, no medical examination is necessary. However, evidence of age is essential at the time of the proposal.
The annuity is beneficial to those who do not want to leave an amount for others but want to use their money during their lifetime.
During their lifetime, they may make maximum use of the money by purchasing an annuity, which is not possible otherwise.
In a bank, he may leave a certain amount at early death or may suffer a loss in living longer due to the stoppage of the money after a certain period. The payment of annuity generally continues up to life.
Therefore, the premium rate is determined according to longevity. The amount premium is higher at a younger age and lowers at an advanced age.
Difference between Annuity and Life Insurance
An annuity contract is just the opposite of an insurance contract,
- The annuity contract gradually liquidates the accumulated funds, whereas the life insurance contract provides a gradual accumulation of funds.
- The annuity contract is taken for one’s own benefit, but the life assurance is generally for the benefit of the dependents.
- In annuity contracts, generally, the payment stops at death, whereas in life insurance, the payment is usually given at death.
- The premium in an annuity contract is calculated on the basis of the longevity of the annuitant but the premium in life insurance is based on the mortality of the policyholder.
- An annuity is protection against living too long, whereas a life insurance contract is protection against living too short.
Both of these contracts complete the economic program of an individual from beginning to end. When life insurance stops serving the annuity contract starts to help the individual up to his survival.
Types of annuity
The annuities can be classified based on to;
- Commencement of income,
- Number of lives covered,
- Mode of payment of premium,
- Disposition of proceeds, and
- A special combination of annuities.
Annuities According to Commencement of Income
Annuities, according to the commencement of income, are classified into three;
- an Immediate annuity,
- an annuity due, and
- a deferred annuity.
Immediate Annuity
The immediate annuity commences immediately after the end of the first income period. For instance, if the annuity is to be paid annually, then the first installment will be paid at the expiry of one year.
Similarly, in a half-yearly annuity, the payment will begin at the end of six months. The annuity can be paid either yearly, half-yearly, quarterly, or monthly.
The purchase money (or consideration) is in a single amount Evidence of age is always asked for at the time of entry. The advantage of this is that with this help, if possible, obtain a larger income that can be secured from the yield of investments.
The form of contract is of special interest to persons without dependents, and it provides the maximum possible consistent income.
Annuity Due
Under this annuity, the payment of installments starts from the time of the contract. The first payment is made as soon as the contract is finalized. The premium is generally paid in a single amount but can be paid in installments, as is discussed in the deferred annuity.
The difference between the annuity due and immediate annuity is that the payment for each period is paid in its beginning under the annuity due contract while at the end of the period in the immediate annuity contract.
The annuity-due contract is beneficial for actuarial valuation.
Deferred Annuity
In this annuity contract, the payment of the annuity starts after a deferment period or at the attainment by the annuitant of a specified age. The premium may be paid as a single premium or in installments.
Generally, the deferred annuity is sold on a level premium.
The payment of premium continues until the stated date for commencement of the installments or until the prior death of the annuitant.
At the death, the premium may be returned without interest. The deferred annuity can be surrendered for a cash amount (or cash option) at the end of or before the deferment period.
The surrender value is normally 950 percent of the premiums paid, excluding the first premium before the deferment period. No surrender value is payable after the deferment period.
The deferred annuity can be issued to male or female lives. Female lives are generally able to avail a lesser amount due to their higher longevity as compared to male lives after a certain age.
The corporation does not require any medical examination but only proof of age is required.
This annuity is useful to those who desire to provide a regular income for themselves and their dependents after the expiry of the specified period.
Classification of Annuity According to the Number of Lives
Single Life Annuity
Under this annuity, one single person following is a contractor. This annuity is most beneficial to those who have no dependents and want to use all these savings during their lifetime.
Multiple Life Annuity
In this annuity, more than one life is contracted. The annuity is also of two types:
- Joint Life Annuity, where payment of annuity stops at the first death, and
- Last-survivor annuity, where payment continues up to the death of the last person in the group.
Classification of Annuities according to Mode of Premium
The annuities, according to the payment of premium, can be level single premium annuities.
Level Premium Annuities
For availing of the annuity, the annuitant can deposit some amounts periodically so that, in the end, he can get a sufficient amount of annuity in equal installments.
During the accumulation period, i.e., before the commencement of the payment of an annuity, he is given the option to get the surrender value in cash or to get the paid-up values reduced in proportion to the premium paid to the premium payable.
At the death of the depositor, the beneficiary can get the surrender values or premiums paid, whichever is higher.
Single Premium Annuities
The annuity, in this case, is purchased by payment of a single premium. Generally, the life insurance amount is utilized for purchasing this annuity.
Classification according to the disposition of Proceeds
The annuities, according to this classification, may be;
- Life Annuity,
- Guaranteed Minimum Annuities; and
- Temporary Annuities.
Life Annuity
This annuity offers a regular income to the annuitant throughout his lifetime. No payment is made after his death. This is beneficial, but not in every case.
When the annuity dies before receiving all the amounts of the purchase price, he is a loss.
However, if he survives for a longer period than expected, he is benefited by this annuity. When we talk of annuities, we mean such types of annuities.
In other words, an annuity means an annual payment up to life.
But this annuity will be treated as a fair-weather friend, and the dependents may be at a loss because the father, who had accumulated a large amount, could not use the funds at an early death.
Guaranteed Minimum Annuity
The insurer guarantees annuity payments for up to a period. If the annuitant dies before the specified period, the annuity will continue up to the unexpired period.
This annuity may be of two types; an Immediate Annuity with guaranteed payment and a Deferred annuity with guaranteed payment.
Immediate Annuity with Guaranteed Payment
To safeguard the loss in case of the early death of the annuitant, this annuity is issued where payment for a fixed number of years will continue, irrespective of death.
Sometimes, instead of continuing the annuity payments after the death of the policy-holder, the difference between the purchase money and annuity installments already paid is returned as a lump sum to the legal representative of the annuitant.
This annuity may be of two types: first, where payment is continued up to the fixed period, and second, where payment continues to the fixed period and up to life thereafter.
The corporation issues the second typed annuity where payments are guaranteed for 5, 10, 15, or 20 years arid thereafter up to life. It means that payment certainly is made up to this period whether the annuitant is alive or dead within this period, and if the annuitant survives after the period is paid, the annuity is up to this survival.
Deferred Annuity with Guaranteed Payment
During the deferment period, there is no difference between this annuity and ordinary deferred annuity. After the deferment period, the payment under this policy will continue for a fixed period, say 5, 10,15, or 20 years and up to life thereafter.
This policy also guarantees a refund of the cash value of the balance of the annuity where the insurer promises to pay a lump sum to the beneficiary or to the annuitant’s estate, the difference, if any, between the total of annuities received before the annuitant’s death and the purchase price.
Temporary Life Annuity
Under this plan, annuity payments cease at the end of a specified period or at death, whichever is earlier. The corporation does not issue such an annuity.
Retirement Annuity Policy
This annuity is useful to employees at the time of retirement. This annuity is issued under the following conditions:
- The main object of the annuity contract must be the provision of life annuity to the individual in old age,
- During the life of the individual, no sum other than the annuity to the individual shall be payable under the contract,
- The annuity payable shall not be capable of surrender, commutation, or assignment,