Annuities as retirement investments to improve pensions


The Pension act in Ghana indicates that at the maximum age of 45 an individual is ineligible to contribute to the National Pension Schemes (Tier I and II). From the age of 15 years, an individual can start contributing to a Pension Scheme. The Act provides contributions to the Voluntary Schemes (Tier III) managed by most of the Licenced Custodians and through informal Pension services like Peoples Pension Trust (PPT).

Data from the Social Security and National Insurance Trust (SSNIT) show that a quarter (25 percent) of contributors to the scheme are on a basic salary of GH¢500 (current value US$55) or less per month. The monthly contribution directly impacts the amount a retiree receives on retirement. The implications are that such contributors with the highest contributions of GH¢55 (US$6.11) are in line to earn the minimum pensions. The minimum pension is GH¢300 (GH¢33.33), below the current minimum wage of GH¢365.31 (US$40.59).

These figures are worrying enough considering retirees’ expenses, especially health care and other household needs. The trend is not particular to Ghana but is also prevalent in other jurisdictions. In Ghana, there are about a 1.9 million contributors to SSNIT (Tier I) and 2.6 million to the Private Pension sector (Tier II and III). One of the primary reasons for the Act’s changes was to improve retirees’ pensions. The introduction of Tiers II and III with some tax benefits encouraged most of the 11 million active workforce in the country to adopt one pension scheme or another.

When most employees or self-employed individuals think about retiring, the focus is on assets such as savings. Determining the amount required before you retire can be a significant challenge. Some think of maintaining the same lifestyle as during their working life, being able to go on yearly holidays, attend social events and others.

Throughout most people’s careers, retirement strategies are focused on pension and retirement savings. Saving for retirement and growing assets is central to a sound retirement strategy – but it is only part of the equation. The next step is transitioning assets into a reliable income stream. Mapping out a successful retirement income strategy typically involves these two questions: What do you need your money to do? What do you want your money to do?

Workers in Ghana and other industry players like Life Insurance companies must look at ways to enhance the Financial Health of retirees. The story from the SSNIT on the low monthly contributions in Ghana can be juxtaposed with a recent report by PWC on retirement in the United States. According to the report, a quarter of US adults have no retirement savings – and only 36 percent feel their retirement planning is on track. Even for those who are saving, many will likely come up short.

The estimated median retirement savings account of US$120,000 for those approaching retirement (age cohort 55 to 64) will likely provide less than US$1,000 per month over a 15-year retirement span. That’s hardly enough, even without factoring-in rising life expectancies and increasing healthcare costs. There are not enough of these statistics in Ghana, but we must not be surprised to see similar or worse situations should any institution conduct a survey.

The Annuities products are critical tools that can help relieve the pensioner. An annuity is a fixed amount of money a person gets each year for the rest of their life. An annuity is a contract between a person and an insurance company that requires the insurer to make payments to you immediately or in the future. It helps the holder to get regular payment for life after making one lump-sum payment or a series of instalments.

One can customise an annuity based on various options – including how long the person thinks they will live, when you want your payments to start and whether you want to leave your income stream to a beneficiary after your death. Annuities can be optimised for income or long-term growth, but they are not short-term investment strategies. These products appeal to people whose objectives include long-term financial security, retirement income, diversification and principal preservation.

Compared to established insurance markets and emerging countries, Africa is at a relatively early stage of development for insurance. Total insurance penetration stood at only 2.78 percent in 2019; far below the global average of 7.23 percent says the African Insurance Organisation. According to McKinsey, South Africa dominates the African insurance market, generating 70 percent of the continent’s insurance premiums at US$48.3billion.

Life insurance, non-life insurance and reinsurance are the three main categories, with each nation performing very differently in the penetration rates of these product areas. For example, non-life insurance comprises 98 percent of the Angola market but only 20 percent of the South African sector. In Ghana, the Insurance penetration rate, according to the National Insurance Commission (NIC), is less than 2 percent compared to the Gross Domestic Product. Life Insurance penetration is about 50 percent of the national rate.

Annuities work by converting a lump-sum premium into a stream of income that a person cannot outlive. Many retirees need more than Pensions and investment savings to provide for their daily needs. Annuities are designed to supply this income through accumulation and annuitisation or, in the case of immediate annuities, lifetime payments guaranteed by the insurance company which begin within a month of purchase – no accumulation phase necessary.

When you buy a deferred annuity, you pay a premium to the insurance company. That initial investment will grow tax-deferred throughout the accumulation phase, typically between 10 and 30 years based on the terms of your contract. Once the annuitisation, or distribution, phase begin – again, based on the terms of your contract – you will start receiving regular payments. Annuity contracts transfer all the risk of a down-market to the insurance company. The arrangement means you, the annuity owner, are protected from market risk and longevity risk; that is, the risk of outliving your money.

If you want a guaranteed income for life, especially post-retirement, you should consider buying an annuity plan. The objective of an annuity plan is to ensure Financial Health during your retirement when your regular income stops. You can use the payout from an annuity plan to cover your day-to-day expenses during retirement and to fulfil your post-retirement dreams such as travelling, starting a venture, pursuing a hobby and more.

Insurance companies charge fees for investment management, contract riders and other administrative services to offset this risk. In addition, most annuity contracts include surrender periods during which the contract holder cannot withdraw money from the Annuity without incurring a surrender charge. Furthermore, insurance companies generally impose caps, spreads and participation rates on indexed annuities, each of which can reduce your return.

There are two types of annuities: Immediate annuity plans and Deferred Annuity. An immediate annuity plan is the most basic type of Annuity. A contributor makes one lump-sum contribution. It’s converted into an ongoing, guaranteed income stream for a specified time (as few as five years) or a lifetime. Withdrawals may begin within a year. If you are approaching retirement age, this is a recommended type of Annuity.

When you purchase an immediate annuity, the insurer will look at factors such as age and how long the payments will last to determine the payment amount. From an income perspective, you can calculate your fixed expenses and use that amount to determine how much you need in the income stream. Some annuity programmes include a rising income stream to keep pace with inflation. This could give you the comfort of knowing that your living costs will be covered in the future.

With the benefits of an immediate Annuity, you can ask for a guaranteed income for you and one other recipient, such as your spouse, regardless of how long you live.

A drawback of the plan is that once you deposit money into the annuity plan, you generally do not have easy access to those funds. There will be barriers if you want to cancel the contract and take back the money you put in. Your surrendering a policy before maturity will come with penalties. Another potential disadvantage lies in what you will pass on as inheritance from the Annuity. In many of these contracts, although you get an income stream for life, you will not wind up leaving any death benefit to your heirs. There are, however, contracts that ensure a lump-sum death benefit will go to your beneficiaries if you die prematurely.

A Deferred Annuity works much like the other Annuity. A holder/contributor transfers money to the insurance company that invests the cash according to the strategy and annuity type. A contributor can pay a large amount of money once or transfer smaller amounts over months or years. Then, one can begin receiving income payments at least a year after opening the deferred Annuity. It can be chosen by working individuals who still have some years of work before retirement.

It may also come with a ‘life cover’, which implies that in case of an insured’s demise the beneficiaries are paid a lump-sum amount. The accumulation phase makes this type of Annuity different from immediate annuities, which require you to pay a large sum upfront and generally offer lower rates of return. You can convert deferred annuities into immediate annuities if you want immediate payments.

An advantage with a deferred annuity is you build your savings now for guaranteed income later. Again, with the range of deferred annuity types you can pick an investment approach that best fits your goals and risk tolerance. Deferred annuities do not have any contribution limits, making them powerful complements to traditional retirement savings vehicles.

The disadvantages of Deferred Annuities include that it’s costly to get your money back ahead of schedule due to possible surrender charges. Once you start collecting income, the decision can be irrevocable. A deferred annuity could charge various fees for income and investment guarantees. Study up on potential annuities’ contract terms to ensure you fully understand the costs. Deferred annuity contracts can be complex, especially with variable and fixed index annuities.

Again, annuities may also vary the basis for type of payout. The following are some types of payouts:

  • Fixed Annuity – Put, an annuity plan that gives you a guaranteed amount throughout the policy’s tenure is a fixed annuity plan. This guaranteed amount is pre-decided at the time of the policy’s purchase. The amount paid is guaranteed. It does not get affected by market fluctuations.
  • Variable Annuity – In a variable annuity plan, premiums are invested in instruments such as mutual funds or equities. Payouts from such plans depend on performance of the fund your money is invested in. If the fund performs well, the holder will get greater returns and vice versa.

There are some other features of Annuity that a would-be user must be aware of: such as Life annuity, which provides the holder with regular (monthly/quarterly/yearly) annuity payouts from the scheme while alive. The Annuity stops after your death. Also, there is a Life annuity with a return on the purchase price.

A holder will continue receiving annuity payments regularly until they die. After that, the insurer returns the initial amount used to purchase the Annuity to your nominee. It is a good option for those who want to leave a legacy behind. Another one is the Annuity payable for a guaranteed period. The Annuity is to be paid for a guaranteed period – say 5, 10 or 15 years even if the annuity-buyer dies. Annuity stops on the annuitant’s death or completion of the guaranteed period, whichever is later.

Users can also get a payout in the form of an Inflation-indexed Annuity. Every year, there will be a rise in the Annuity payable at a specific rate; say 2 percent or 5 percent. Though it may not be linked to the actual inflation rate, the rationale is that it will take care of the increase in expenses to some extent.

In conclusion, even though Annuity has not been popular in Ghana, the market dynamics are changing for such products to be on the market soon. The revised National Insurance Act and the increase in capitalisation of Life Insurance companies in the last 12 months are all geared toward a market with such products. There must be a conscious and deliberate process to improve the Financial Health of the country’s active force.

In the past few days, the NIC, with support from the industry has been engaging with the different market segments to create awareness and educate on the relevance of annuities.  A retirement plan benefits you, your business and your employees. Retirement plans allow you to invest now for robust Financial Health when you retire. These retirement savings and investments get significant tax advantages and other incentives as a bonus.

>>>The writer is CEO/Co-Founder of MyFIG, a product of Figtech Limited

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