• Wayne Dennehy

Interest rate change and emergency regulations – what they mean for your annuities

On 23 July 2020, the South African Reserve Bank announced another 25 basis point cut in the repo rate, bringing it to 3.5%, the lowest it has been in decades. While this does provide relief to consumers in the form of lower interest on debt, there may also be concern in some quarters about the effect of the rate cut on pension income from annuities.

Wayne Dennehy, investment specialist at Momentum Corporate says there’s no need to panic as he isn’t expecting significant change in the cost of future annuities from this cut. He explains, “Broadly, for every 1% change in interest rate, one could expect about an 8% change in the monthly pension your cash can buy. For example, if the money you have can buy you a pension of R1 000 a month, that same money after a 1% rate cut will only buy R920.”

“Markets don’t wait for new data to be released before moving, they move in anticipation of expected news. As you approach retirement, if your pension fund assets are invested and this value changes in line with the price of your future annuity, there is less anxiety,” he adds.

Buying an annuity is a way to ensure a monthly income during retirement. This is what many retirement fund members do when they retire, using all or a portion of their retirement savings. It’s a big purchase decision, so it’s important to consider the features of the different annuity products available to make sure you choose one that best suits your needs.

Many different annuities in the market

The different types of annuities available can be broadly classified under the following categories:

Guaranteed (life) annuity

  • A guaranteed annuity (also known as a life annuity) pays an income for as long as you live.

  • The income is calculated at the time you buy the annuity. You can choose to have an income that –

  • remains the same for life (level annuity);

  • increases every year at a fixed percentage (fixed-escalation annuity);

  • increases through annual bonuses (with-profit annuity); or

  • increases in line with inflation (CPI-linked annuity).

  • Usually, an increasing annuity starts at a lower income level than an annuity that does not increase.

  • After you pass away, there won’t be any capital amount left for your beneficiaries, unless you choose a joint life pension or a guarantee term.

  • You don’t take any risk of investment markets performing poorly – your income is guaranteed.

  • You cannot make any changes after the income starts.

  • You cannot change your annuity to a living annuity at a later stage.

Living annuity

  • With a living annuity, you decide how you want to invest your money.

  • You must take an income of between 2,5% and 17,5% of the investment value every year. This is flexible, so you can adjust the level of income each year as your needs change. This change can only be done on the policy anniversary date.

  • Your beneficiaries inherit what is left of the money after you pass away.

  • Your money is exposed to the ups and downs of investment markets.

  • You take the risk of how long your accumulated savings will last and it is possible that you outlive your retirement savings.

  • You can decide to change a living annuity to a life annuity at a later stage.

Understanding what annuity to buy