"I have an annuity but I need cash now."

[David Hayden]

If you're in the US, you've probably seen ads on TV with the subject line in the jingle. The company says that if you have an annuity, they can give you cash now. I assume that they buy it from you ... and that they try their hardest to conceal that fact.

Here are two fun questions:
1. What is a fair price to get for an annuity? How would you calculate it? For example, if Joe is 40 years old and gets $100/month from an annuity, what is a fair price for him to sell it? If you aren't familiar with the term, an annuity pays a fixed dollar amount until you die and then has no value. In other words, your heirs don't inherit the payments. They simply stop.

2. Slightly harder: suppose you are due a pension and the company wants to buy it out. What is a fair price? How would you calculate it? For example, if Jane is 40 and is due to receive a monthly pension of $500 starting at age 65, what is a fair price to pay her today to buy it out?

You have to make lots of assumptions here. What are reasonable values for them?

I faced the second question several years ago. The company was offering about 1/4 of what I estimated to be a fair amount. I'm glad I didn't sell it.

Dave

[KeithB]

I just recently had this issue. I have an $80 per month pension available, and I wanted to just cash it out.

You have to choose 3 things:
Your expected interest over the long term - 3-5% probably to be conservative
How long you expect to live - 85 to 90 would be a safe bet
How much profit you want to give the folks buying the annuity. (20%?)

Then you simply use your favorite TVM software to calculate it. I happen to have the last "what if" I used:

N:360 (30 years - I am 64)
Pmt: -80
FV: 0
I%/yr: 10
P/yr: 12
C/yr: 12

The PV was $9116

I probably would have accepted anything over $7300.
But they didn't buy pensions, only annuities and structured settlements.

The pension company won't let you buy it out unless it is less than $1000.

[Hans Brueggemann]

just wondering: would you have to pay taxes on the PV?

[David Hayden]

(05-08-2024 07:32 PM)KeithB Wrote:  Your expected interest over the long term - 3-5% probably to be conservative
...
I%/yr: 10

Is 10% a typo?

Dave

[Johnh]

A few years ago I took the opportunity to make a deal like this. I was 55 I had paid for a few years into a company pension fund in the UK, finishing about 15 years before. A full career paid into this system would have given me an annual pension of about 2/3 of final salary, which was the traditional way these pensions worked. After just a few years paying in, it would have given me just a few thousand a year after age 65 Not insignificant but not enough to make big plans around.

So after checking out some offers, I sold it for a lump sum that was about 50x the expected annual payment, and invested it in a fund to use later. I can draw on it at any time, but uk pensions are taxable so I'll wait until I stop earning elsewhere

At the time, interest rates were historically low, and these types of pensions were being phased out. I was told that to provide that company pension would have been very expensive for the company, since it is effectively an annuity and to cover that annual commitment in an environment of low interest would have meant paying a huge amount for the annuity, hence the company was willing to pay a high sum to get out of this liability. The arrangement puts me much better in control too, and anything left will remain in my estate after I've gone.

So this situation seems to fit in with the topic of this thread. So, how would the maths work?

[Albert Chan]

(05-08-2024 07:32 PM)KeithB Wrote:  N:360 (30 years - I am 64)
Pmt: -80
FV: 0
I%/yr: 10
P/yr: 12
C/yr: 12

The PV was $9116

I probably would have accepted anything over $7300.

That is way too small amount!

The lower the interest, the higher PV is worth
If rate is 0, PV = -N*PMT = -360 * -80 = 28.8k

C*PV + C(N=-N)*FV + N*PMT = 0        // TVM formula, C = I*N/(1-(1+I)^-N)
PV = -N*PMT / C                                 // FV=0, 2nd term goes away

You had mentioned 3-5% is reasonable rate.

I=3%/12 --> PV ≈ 28.8k / 1.518 = 19.0k
I=5%/12 --> PV ≈ 28.8k / 1.933 = 14.9k

Quote:How much profit you want to give the folks buying the annuity. (20%?)

I would not consider this (how to you even get their profit?)
Instead, consider what is highest acceptable rate (lowest PV)

7.3k buyout corresponded to 13.65% APY
Invest on your own, do you think you can get this?

It may be cheaper just get a regular loan ...

[KeithB]

(05-08-2024 09:23 PM)David Hayden Wrote:  

(05-08-2024 07:32 PM)KeithB Wrote:  Your expected interest over the long term - 3-5% probably to be conservative
...
I%/yr: 10

Is 10% a typo?

Dave

I said it was my last "what if". It happened to be left in the Prime.

[KeithB]

(05-08-2024 09:39 PM)Johnh Wrote:  So after checking out some offers, I sold it for a lump sum that was about 50x the expected annual payment, and invested it in a fund to use later. I can draw on it at any time, but uk pensions are taxable so I'll wait until I stop earning elsewhere

Note that for the pension and annuity, when you die you get nothing. Well, your heirs get nothing, but you understand what I mean.

This is one advantage to a retirement investment plan.

[Steve Simpkin]

I had never heard of the terms "annuity" or "structured settlement" before hearing that series of commercials. They sing and dance about it like most people have these things in the U.S. It turns out that only about 10% of Americans have a commercial annuity. Even less have a structured settlement.

https://www.youtube.com/watch?v=Q0klvfQ39o4

[Dave Britten]

I get the feeling that in a few hundred years, their theme song will end up in collections of traditional North-American folk songs.

[Gene]

Couple of years ago now I made a high level presentation about adding mortality to the time value of money - aka pensions and life annuities - at an HHC conference. Video is on youtube

[nickapos]

(05-09-2024 04:36 PM)Gene Wrote:  Couple of years ago now I made a high level presentation about adding mortality to the time value of money - aka pensions and life annuities - at an HHC conference. Video is on youtube

Just watched that presentation, interesting stuff.
Thanks a lot

[Gene]

Thanks !

I hace wanted for some time now at least a life annuity function on an HP

[KeithB]

This might be in the presentation, but the problem with figuring out an annuity for yourself - with actuarial tables - is that you have no idea how long you are going to need the annuity.

The annuity companies, on the other hand, are counting on the fact that the actuarial tables work fine as a distribution, so in aggregate they can make accurate forecasts.

[DavidM]

(05-09-2024 04:36 PM)Gene Wrote:  Couple of years ago now I made a high level presentation about adding mortality to the time value of money - aka pensions and life annuities - at an HHC conference. Video is on youtube

Nice presentation, Gene. In case anyone is looking for the video, here's a link: Adding mortality to the time value of money

Also, the RPL app that Gene pointed out comes in two varieties:
HP 48 Version
49g+/50g Version

[Gene]

Anything other than RPL would seem to require too much data storage to program.

[EdS2]

(05-10-2024 02:57 PM)KeithB Wrote:  This might be in the presentation, but the problem with figuring out an annuity for yourself - with actuarial tables - is that you have no idea how long you are going to need the annuity.

The problem of not buying an annuity is the risk of outliving your money.

The way I see it, whereas life assurance is a bet you place with the meaning "I bet I'll die early", an annuity is a bet you place with the meaning "I bet I'll live for ages" - the institution taking the other side of that bet, having the advantage of averaging out the outcomes.

In my circumstances, I'm happy with the idea of buying a large enough annuity to cover my expenses - if I can afford to. I don't need to know my life expectancy or the 95% confidence interval. Or should that be 99%?

But having said that, in the UK (or, perhaps, England and Wales) at least one can get something like the confidence interval as well as the life expectancy, in an official calculator. (I'm not 75, but I looked this up: "75 year old male, average life expectancy 86 years, 1 in 4 chance of 92 years, 1 in 10 chance of 96 years, 2.8% chance of 100 years".) More here and much more here.

BTW I'd be wary of taking any simple averages in this arena - the few people who live much longer might be much more expensive, from the point of view of the institution, so the average might well be some kind of non-linear weighted average. Perhaps a Monte Carlo simulation would be best.

[Maximilian Hohmann]

Hello,

these are all interesting and very relevant questions, at least for those of us who have reached a certain age. I was faced with some decisions regarding pension/annuity a couple of years ago myself, when my life insurance ended. Not easy to decide if you want to take the money and invest it yourself or go for an annuity instead. All the fine TVM functions of all the fine (HP) calculators are totally useless in that respect, because the biggest unknown is your remainig lifespan which can range from 0 to 40 years at that point. So all you can do is calculate for those two extremes and try to place yourself somewhere in between.

In the end, the mathematics is the same as with a casino: The bank always wins because it has the big numbers/statistics working for them. My life insurer's offer was very straightforward and simple to analyse: The obviously calculated with the average life expectancy (78 years for a male in Germany) and an interest rate of 2% and offered monthly payments accordingly. I could do the same from my own bank account with the added advantage of having instant access to the entire capital should need arise. Selling back an annuity would just be the inverse, but always with some percentage deducted for the buyer.
One more problem, at least around here, is taxation. It is very complicated, changes frequently and adds one more unknown to the equations that is almost impossible to guess over the typical duration of annuity contracts. As in Dave's case in the initial posting some (large) employers offer you to pay part of your salary as a company pension or annuity at age 65 or 67. If you sell that early, some heavy taxation might result.

Regards
Max

NB: I did not take the annuity offer of my life insuer. Too much of a gamble for my taste. Instead I put some of the money into a care insurance, that will pay a monthly pension in case I ever need care, either at home or in a hospital. I hope to get very old in good health and therefore never need it, but just in case, it will help my wife and son to pay for the astronomical costs that need to be faced if a familiy member needs care.