Your Annuity Options
1. Indexed Annuity: Annuities can be structured to provide protection from inflation, but you must accept a lower level of payments, initially anywhere from 30 to 45 percent less. Four payment formulas are available, although rarely from any one company. Again, careful shopping is crucial. Payments increase every year, based on one of the following formulas:
2. Prescribed Annuity: A prescribed annuity can be purchased only with non- registered funds; the money cannot come from an RRSP. The payments are made up of principal and interest, and you are taxed only on the interest portion of each payment reived during a calendar year. This effectively spreads the tax impact out over the life of the contract by keeping the taxable portion — the interest — at the same level throughout the life of the annuity. A prescribed annuity may also be combined with a RRIF.
3. Cashable Annuity: Although most annuity decisions are irrevocable, legislation has allowed cashable annuities since 1986. Few companies offer this option, but most will at least consider giving you the commuted value of a term-certain annuity because it can be easily calculated at any time (the process is far more difficult regarding a life annuity). Usually, a penalty is involved. You should consider cashing in if you’ve developed a serious medical condition, if interest rates are substantially higher than when you bought the annuity, or if you really need the cash. Cashed-in money can be moved into a RRIF.
4. Income-Reducing Annuity: This form of joint-and-last-survivor life annuity provides higher monthly payments until the death of one spouse. Payments to the surviving spouse are then reduced. The rationale for this reduction, which certainly makes sense, is that one person will require less income than two.
5. Impaired Annuity: If you have a medical condition that could result in a reduction of your life expectancy and can produce a doctor’s report to prove it, you may qualify for a life annuity that will pay out as if you were older. This type of annuity translates into higher payments because the actuarial tables used by life insurance companies will project a shorter-than-normal life span.
You have nothing to lose by applying, and you don’t have to be on death’s door to do so. Conditions such as hypertension (high blood pressure), heart disease, stroke, diabetes, Alzheimer’s disease, or cancer may entitle you to take advantage of this opportunity.
If you are married, you can still choose various options within an impaired annuity to protect your spouse in the future. This should depend on what other income- producing assets you have.
6. Deferred Annuity: Although few reasons to opt for this choice exist in the current economic environment, it may well be important at some later date to know that you can buy an annuity to provide income in the future, rather than at the date of purchase.
These deferred payments cannot begin any later than the month of January of the year in which you turn 70, but can be put in place as much as 10 years in advance. Your eventual income will be correspondingly higher as the time frame over which you defer payments lengthens, simply because your money will be generating interest during that time. Generally, this technique makes sense only if interest rates are high and you want to lock them in now, which currently is not the case, or if you feel the rates will further decline between now and the time you retire.
Adapted from Gordon Pape’s 2000 Buyer’s Guide to RRIFs and LIFs, by Gordon Pape and David Tafler, published by Prentice Hall Canada.