Living annuity is a type of annuity that lets you (who buys the annuity) decide where the annuity provider (who sells the annuity) invests your contribution and how much you get periodically from it. Like all other annuities, they are bought for the regular retirement income they provide annuitants.
If you are looking for a regular income from a large down payment, in this article you will learn the benefits of a living annuity to help you decide.
How a Living Annuity Works
Most people who buy a living annuity are pensioners because of the two-thirds annuity law. It demands that if you retire your provident fund, pension fund, retirement annuity or preservation fund; two-thirds of the lump-sum payment you get must go into an annuity income. The other one-third is paid out to you directly. Although, it is not just for retirees. Young people are also allowed to buy living annuities as long as they meet the requirements.
Barring the minimum legal age requirement, there is no age limit for buying a living annuity. Once you buy one, you do not become a policy holder because it is not an insurance policy, you become and investor. Living annuities are financial products. Buying one gives is a set up for investment in the financial markets. Living annuity providers require you to decide your investment portfolio – to decide where the investment is made in the market and how it is made. They do not decide your investment for you. It is a good idea to get an intermediate financial adviser to help you with this. Your living annuity can be part of a share portfolio, unit trust or cash investment. It’s value and potential return then depends on the market value of the underlying investment.
The amount you use of your retirement funds to buy a living annuity is the investment you make. It is effectively your capital balance. It is what you invest in financial markets with. Immediately you start receiving income as a percentage of this amount. It can be monthly income, quarterly, semi-annual or annual income as a percentage of your residual balance. Regardless. According to the law, you must get an income from a living annuity. Residual balance is the amount you have left in your living annuity at any given moment. It is a consequence of how your investment does in the market. Once you invest, it either gains or loses, making your capital balance more or less respectively. As a consequence, your residual balance is more or less.
When your income depletes your residual balance, you no longer have a living annuity. The residual balance you have is your living annuity.
Annuities typically have two processes. The first is when you give them money and the second is when they reimburse you following the conditions of your assurance contract with them. The period between when you make your first payment and when you start getting your regular income is called the surrender period. Living annuities don’t have a surrender period.
As soon as you invest in a living annuity you start getting an income. And even so, you must draw an income from your living annuity because it is an immediate payment annuity. By law, the minimum income you should draw is 2.5% and the maximum is 17.5% of your residual capital. These figures, which are also called draw down rates, are subject to change in legislation. At the time you buy this annuity, you select percentage income you get. Then every year during the anniversary date you can change the draw down rate of your policy. The lower your draw down rate, the longer your in income is likely to last. You should be keen on this especially if you are looking for a stable income during retirement. You will not want to outlive your living annuity.
Your living annuity will have greater value when there are greater returns from the market you invested in. It is not just a fixed salary. If you get good financial advice you could see better income in the future.
Although the other choices for retirees are limiting, a living annuity lets you choose what amount of income you will draw as well as how to trade your investment. You should do your due diligence before buying. There are calculators available online like the 10X retirement calculator which can help you find out if a living annuity is best for the lifestyle you want to live during retirement. If you are not comfortable with the proceeds you get, you can also change your income draw down rate or interval during the anniversary date of your living annuity. If you want to opt out of a living annuity into a life annuity, the law permits it. You can use your living annuity’s residual capital to buy a life annuity. However, you cannot reverse this. Once you buy a life annuity you cannot substitute it for a living annuity.
This flexibility is especially useful if you want to participate actively in the management of your income. Most insurance policies and financial products that offer retirement benefits give fixed incomes. They confine the retiree to an income which cannot be registered after the contract is signed and don’t let the retiree make decisions that could better his or her income. With living annuities, shrewd investment strategies are rewarded. You have the option to decide yourself how to invest the capital in your living annuity or outsource it to a financial expert. In most cases the living annuity provider does not take part in your investment decisions. Consequently, your obligation to ensure that your income is sufficient and lasts long enough to see you to the end of your days rests with you.
Living annuities also allow transfers, unlike most options that give fixed incomes. Transfer in options include:
- the ability to receive money from another annuity account, and
- the ability to receive money from a pension fund, a pension preservation fund, a retirement annuity, or a provident fund.
You cannot receive money from a guaranteed annuity fund. Transfers out on the other hand, include:
- the ability to transfer your living annuity to someone else’s living annuity, and
- the ability to transfer your living annuity to a guaranteed annuity.
You cannot transfer your living annuity out of the country. In case you emigrate to another country, your living annuity remains active in South Africa. You can only transfer the income (that you draw from your living annuity fund) in your South African bank account to a bank of your choosing in the country you emigrate to.
Living Annuity is Inheritable
A living annuity is different from a life annuity because it does not get cancelled out as a consequence of your death. It is similar to life insurance in the sense that your beneficiaries and dependants are left with a pay out in case you die with residual capital in your living annuity.
For this reason, it is a good legacy strategy. When setting up your living annuity, you have the option to nominate a beneficiary. The beneficiary automatically inherits your capital (or residual balance) when you die. If you do not have a beneficiary, the residual balance is paid into your estate.
In case you nominate a beneficiary, they will have three options. First option, they can start managing the living annuity under their name and continue receiving regular income from it. Second, they can receive a portion of the residual balance as a lump-sum payment and manage the remaining portion as a living annuity under their name. Third and last, they can receive the full residual balance of your living annuity in a lump sum payment.
The tax benefits that come with a living annuity is a major reason to get one. First, the capital in your living annuity fund is not liable to income tax, dividends tax, or corporate gains tax. You are only liable to income tax when you get your regular income as stipulated by your draw down rate. This is levied at the marginal tax rate. Second, all the transfers you make involving your living annuity, either in or out, are not taxed. The last tax benefit is that your beneficiary will not be charged tax in case they decide to receive a lump sum payment from your (the deceased’s) living annuity. The amount is only subject to the tax for withdrawal while still under your ownership during succession. Although, it should be noted an estate duty is levied once the lump sum gets into your beneficiary’s estate, it is taxed separately.
A living annuity is beneficial for the flexible regular income it provides. You (as an annuitant) should be prudent with your living annuity fund. If you don’t understand anything, consult a financial advisor. Getting one to help manage your living annuity is best. Even though this will add an extra cost, it will ensure your regular income and might even increase it in the long run.