A pension annuity is one of the retirement income products. The other one is the income drawdown. An annuity is offered by insurance companies to retiring members of a pension scheme. It is designed to bring a regular income for life in exchange for a lump sum retirement savings.
Why insurance companies? Because it works like a life insurance policy in reverse, whereby the insurer pays you a regular income for life when you give them your retirement benefits. I hope you get it.
You can buy an annuity from two main sources of funds.
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Sources of Fund
Pension Fund
You can buy an annuity from your retirement benefits coming from your employer’s scheme or an individual pension plan. If you are in a pension scheme, you are required to use at least ⅔ of your retirement benefits to buy a retirement income product, in this case, an annuity.
Provident Fund
If your retirement savings are in a provident fund, you can access them as a single lump sum, where you can use all or part of it to purchase an annuity.
An annuity has several important features that you need to hear about!
Features of Annuity
Guarantee Period
When purchasing an annuity, you can choose the period in years during which annuity payments are guaranteed to be paid to the annuitant and/or to their beneficiary, whether the annuitant is alive or not. The guaranteed period is meant to mitigate against the loss of invested funds in case of the early death of the annuitant. If the annuitant survives the guaranteed period, the payments continue until death, regardless of how long they live.
Single or Joint Life
A retiree can purchase an annuity on their life alone or together with a spouse. In the event of a joint life, annuity payments are attached to the life of both the annuitant and the spouse, such that payment continues to the surviving spouse even if death occurs to the annuitant.
Annuity payments are paid at a rate of 50% or 100% until the death of the surviving spouse.
Escalating Rate
To cushion against inflation or other reasons best known to the annuitant, one can choose to purchase an annuity that increases by a particular percentage (usually 3% to 5%) on the anniversary of the policy.
The initial payment for an escalating annuity policy will be significantly lower compared to a non-escalating policy. For non-escalating annuities, the amount payable does not change during the entire period of the policy.
Taxation
Annuity payments in excess of KES 25,000 per month are taxed. Any payment amount above KES 25,000 is subject to the usual PAYE rates if the retiree is below 65 years. No tax is applied to annuity payments if the retiree is above 65 years.
Annuity in Arrears
Most annuity payments are made in arrears. That means, if a retiree purchases an annuity at the beginning of the month, usually before the 15th of that month, they will receive the regular payment at the end of the month. If they purchase after the 15th, they will receive the payment in the following month, together with the second payment. In purchasing an annuity, here are important things to know:
- A retiring employee does not have to take an annuity with the company they built up their retirement savings with. They are free to shop around for insurance companies and get the best deal. This is what I would recommend.
- Once you purchase an annuity policy and it commences, you cannot cancel, change or transfer it to another provider. You stick with the company you choose to the end; therefore, choose wisely.
- Once the annuity policy commences, the annuitant is paid on a regular basis depending on their choice of frequency (monthly, quarterly, semi-annually, or annually).
- Annuity rates at the time of purchase depend on: (Prevailing interest rates, the higher, the higher the annuity income, Age, where by the older the annuitant, the higher the income they get, sex whereby if you are a woman, you get lower rates since they have higher life expectancy than men on average, Joint life which attracts lower income since there are two lives in consideration the insurer is likely to pay income for a longer time, guarantee period where the shorter the guarantee period the higher the payout and vice versa, escalation where the higher the escalation rate the lower the initial payouts
- If you are looking for a quote for an annuity policy, the following information is usually required. Name of client, age of annuitant, and age of spouse (if joint life), gender of the annuitant, purchase price or the lump sum funds, guarantee period option preferred, escalation rate if required, minimum age (55 years being the early retirement age prescribed by the government), maximum age (75 years), minimum amount: Kshs. 600,000
To sign up for an annuity policy, you will be required to submit just a few docs.
- Annuity form
- Copy of ID
- PIN
That’s all for this write-up. For any questions, post them in the comments section or call/chat with me on WhatsApp. Thank you for being here, my dear reader.
