Regulations require you to use at least two-thirds of your Retirement Fund to buy an annuity when you retire. An annuity is a product that provides you with a monthly retirement income or pension. The regulation applies to a Retirement Fund, Pension Fund, Provident Fund and Retirement Annuity. You can also purchase an annuity with other discretionary investments that you have, to allow you to receive an income from multiple annuities or just a single one. So, how do you choose an annuity? Which one is right for you? I recommend you do your homework and chat to a financial adviser as annuity products have evolved.
Choosing an annuity for retirement – which one is ‘just right’?
Most of us are familiar with the fairy tale of the curious little girl, who on entering an empty cottage belonging to three bears, struggles to find the right fit, from the temperature of her porridge (too hot, too cold, or just right) to the comfort of a chair and bed.
Although Goldilocks was presumably quite a way from retirement age, the story does highlight that a one-size-fits-all solution in most circumstances is an exception. This is especially true when it comes to finding a retirement product. You should look for a solution (or a combination of solutions) that is ‘just right’ for your personal circumstances.
In the past, retirees have been limited to choosing between a life or a living annuity at retirement. However, the landscape has evolved, and new-generation annuity solutions can be tailored to suit an investor’s unique circumstances and risk appetite at retirement.
Living Annuities – Too Hot?
A living annuity allows you to decide how much income to draw from your investment each year, as long as it is within the regulated limits of 2,5% to 17,5% per year. It offers retirees great flexibility, however it also comes with potentially great risk. There is no guarantee that it will last as long as you do – you might run out of money if you draw too much too soon. You’re able to change your ‘drawdown rate’ annually on the anniversary of your policy, but because your capital goes up and down with the markets, so can your income. There is also a chance that your underlying investments in your living annuity perform poorly, with the result that your retirement capital either doesn’t grow enough to give you a sustainable income, or simply gets depleted.
Life Annuities – Too Cold?
Life annuities, on the other hand, are an insurance product. They offer less flexibility, but much greater security, as your income and annual increases are priced in at the start. With a life annuity, you’re guaranteed a monthly income that never decreases, to meet your essential expenses for life, eliminating the risk of living longer than your retirement nest egg can cover. You’ll never run out of money as there will always be an income for you (or your spouse if you choose) after you die.
Blended Annuities – Just Right?
If you value the flexibility that comes with a living annuity but want to access a higher, sustainable monthly income, a blended annuity could be ‘just right’. This new generation concept combines the benefits of a living annuity and a life annuity in one investment. You decide how much of your investment is living annuity and how much is life annuity.
By purchasing a blended annuity or switching from a living annuity to a blended annuity, you can weigh up your wants and needs, then decide how much to allocate to the guaranteed component and how much remains flexible or ‘liquid’. Blending also allows you to optimise your income over time, balancing the risk of outliving your savings by adding to the guaranteed component when required.
Supplied by Ryan Hultzer, Pricing Actuary at Just SA
Remember, when it comes time to choose an annuity, speak to a trusted independent financial adviser who can help you make the best decision based on your needs.