Annuities are proving a winner for Challenger, with retail annuities sales increasing 56 per cent in 2010-11 to $1.46 billion from the year earlier. Challenger is making a big push into the annuities market as retirees worry about the effect of twitchy sharemarkets and the impact of longevity on retirement savings. The market for new annuities is dominated by Challenger, followed by the Commonwealth Bank and Westpac.
Annuities are similar to fixed-interest investments, in which investors use some of their savings to buy a guaranteed income stream payable over any period between one and 50 years.
Annuities come in several shapes and sizes. Some guarantee a certain fixed income for a set period, usually paid quarterly. The investor can choose to have all the capital repaid at the end of the term or have the capital drawn-down gradually with each quarterly payment until the end of the term, or to have only some capital returned over the term.
There are also "lifetime" annuities where, if selected, can cover the life of a second person. Some providers, such as Challenger, allow investors to withdraw all or some of the capital after the first 15 years of the annuity.
On present pricing, Challenger says a man of 65 could buy a lifetime annuity for $283,000 that pays $17,400 a year, adjusted for inflation, for the rest of his life. That's about the same as the full age pension.
If the government makes changes to the law to enable the issuing of deferred lifetime annuities, Challenger says it will issue them. For example, a 65-year-old man could invest $10,000 and receive $8000 (in today's purchasing power) indexed for life from his median life expectancy from 91.
You can see the appeal in using a relatively small part of retirement savings to buy insurance against running out of money in advanced old age if the government gives the go-ahead. Bear in mind, however, that the 65-year-old does not start receiving the $8000 a year for another 26 years. There's also the question of whether the 65-year-old will make it to 91.
Challenger says the average period for term annuities that it sells is four years and that most people choose to reinvest again at the end of the term. People use them like term deposits but with the tax breaks that come from having the annuity inside the super tax structure.
Those buying annuities favour shorter-term periods with the capital repaid, presumably because they want the flexibility to shop around for the best annuity interest rate at the end of the term and have ready access to their capital if their circumstances change. Investors can tailor their own annuity. Some term annuities can be "optioned", so if the investor dies there is some money for the spouse or estate. That might mean a lower fixed income or, in the event of death, the spouse/estate gets only a fraction of the remaining capital. One appeal of annuities is their seeming simplicity however, don't be fooled.
Annuity interest rates change constantly as market conditions change and, generally, you won't find the rates published on the providers' websites. Investors or their financial planners have to contact each annuity provider and give the details of the type of annuity they want and get a quote.
Another important factor is investing in annuities can affect social-security benefits. If ever there was a financial product that requires good financial advice, annuities are it.
Frequently Asked Questions about this Article…
What is an annuity and how does an annuity provide guaranteed retirement income?
An annuity is a financial product similar to a fixed‑interest investment where you use some savings to buy a guaranteed income stream payable over a chosen period (usually between one and 50 years). Payments are often made quarterly and you can choose options such as getting all capital repaid at the end of the term, having capital drawn down gradually with each payment, or receiving only some capital back over the term.
Why are retirees turning to annuities instead of keeping all money in shares or term deposits?
Many retirees are choosing annuities because they offer a guaranteed income that helps manage the risks of volatile sharemarkets and the financial impact of increased longevity. Annuities can serve as insurance against running out of money in very old age by converting part of retirement savings into a predictable income stream.
What types of annuities are available and how do they differ (term, lifetime, deferred)?
There are several shapes of annuities: term annuities that pay income for a set period (often with capital repaid at the end), lifetime annuities that pay for life (sometimes covering a second person), and deferred lifetime annuities that begin payments at a later age (these require legal changes before some providers will issue them). Features vary — for example, some providers let you withdraw some or all capital after a set period (Challenger allows withdrawals after 15 years).
Who are the main annuity providers in Australia and which company is the market leader?
The market for new annuities in Australia is dominated by Challenger, followed by the Commonwealth Bank and Westpac. Challenger has been making a big push into annuities: retail annuity sales rose 56% in 2010–11 to $1.46 billion compared with the previous year.
How much income might a lifetime annuity pay in practice?
Using Challenger’s example of present pricing, a 65‑year‑old man could buy a lifetime annuity for $283,000 that pays about $17,400 a year, indexed for inflation, for the rest of his life — roughly similar to the full age pension level in that example. Actual outcomes depend on pricing at the time you purchase.
What is a deferred lifetime annuity and what example did Challenger give?
A deferred lifetime annuity is designed to start payments at a later age. Challenger said it would issue deferred lifetime annuities if the law allowed it. Their example: a 65‑year‑old could invest $10,000 today and receive about $8,000 (in today's purchasing power), indexed for life, starting from his median life expectancy (around age 91) — noting the long deferral means payments wouldn’t start for about 26 years and depend on surviving to that age.
How do annuity interest rates, flexibility and social‑security rules affect whether I should buy one?
Annuity interest rates move with market conditions and are not usually published online; you or your adviser must contact providers for a quote. Many buyers prefer shorter term annuities (Challenger’s average term sold is about four years) with capital repaid to retain flexibility and the ability to shop for better rates later. Also be aware that investing in annuities can affect social‑security benefits, so good financial advice is essential before deciding.
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