Chapter 3 Flashcards
(13 cards)
What is an immediate annuity?
A contract to pay out regular amounts of benefit provided the life insured is alive at the time of payment
* The contract starts payment immediately without a deferred period
* It is purchased in advance by a single premium - may be proceeds of another contract, e.g. EA
What is the main purpose of an immediate annuity to a PH?
- To convert capital to lifetime income
– transfers longevity risk from individual to the IC
– may be a requirement in some countries to purchase retirement income with pension funds
On which bases can IA be purchased?
- Single life
- Joint life first death
- Joint life last survivor
– used for providing dependants’ income following death of the main life
– payment may reduce after the first death
What are other optional features of IAs?
- Payments can be made for a temporary period
- Regular payments can be level or variable
- Payments can be guaranteed for an initial number of years, regardless of whether life insured survives the period or not
- There can be a guarantee that, on death, within a specified period, any shortfall between the premium paid and annuity payments received to date of death will become payable
- Impaired or enhanced annuities also exist - higher levels of annuity benefit
Are SVs available on IAs?
Not normally
* Severe anti-selection risk - PHs in ill-health would surrender their policies in return for a lump sum since they expect that they will not receive many more regular payments
* It is possible to transfer an annuity in payment to another person by selling it
Do group versions exist for IAs?
Yes, this allows employers to fund employees’ pensions in retirement.
What are the main risks for the insurer under IAs?
Longevity risk
* The risk that the mortality experience is lighter than expected - mortality improvement rates are underestimated
* Associated with the self-selection of those people who buy annuities - extent of free choice
Investment risk
* Depends on the degree of matching between annuity payments and the backing assets
Expense risk
* Single premium - all future expenses will have to be met from a single premium and there is a risk that this will be inadequate, especially for PHs living longer than expected where inflation is exacerbating the expense risk
* Can have an expense reserve where part of the single premium is invested and drawn upon over the lifetime of the policy to pay expenses
Withdrawal risk - if withdrawals are permitted
* Anti-selection risk is reduced by underwriting withdrawals, ensure the PH is in good health when withdrawing
What is a deferred annuity?
It is a contract that pays out regular amounts of benefit provided:
* The life insured is alive at the end of the deferred period when payments commence
* And subsequently alive at future times of payment
It is purchased by
* Regular premiums during the deferred period
* A single premium
Explain the capital requirements for immediate annuities
- The contracts can give rise to significant capital requirements, depending on the relationship between the pricing and supervisory reserving bases
- Rules regarding solvency margins can significantly increase the capital requirements
What needs are met by deferred annuities?
For individuals:
* The deferred annuity enables them to build up a pension that becomes payable on their retirement from gainful employment
* At the vesting date of the deferred annuity, an alternative of a lump sum may be offered to replace the full or part of the pension
Groups:
* Allows employers to fund for employee pensions
What structures can deferred annuities adopt?
- With-profits: will provide a guaranteed level of regular income and bonus additions to this income level may be made while the policy is in deferment
- Without-profits: standard regular annuity payments made or a fixed lump sum available at retirement
What are the main risks of a deferred annuity to an insurer?
- Before the vesting date, the risks are similar to those of an EA
- At the vesting date there are additional investment, mortality and expense risk if terms for converting between pension and lump sum are subject to a guarantee - if the guarantee is greater than the current rate offered, the company would have to provide a benefit higher than it can comfortably afford, resulting in a loss of profit
- After the vesting date the risks are very similar to those of an immediate annuity
Describe the capital requirements under deferred annuities?
- Capital requirements are for an EA as far as covering the lump sum benefit - will vary slightly according to the pattern of death benefits provided during the period before the vesting date
- Additional capital may be required for any guarantees offered for converting from the lump sum to the pension
