History[edit]
The instrument's evolution has been long and continues as part of actuarial science.[2]
Ulpian is credited with generating an actuarial life annuity table between AD 211 and 222.[3]
Medieval German and Dutch cities and monasteries raised money by the sale of life annuities, and it was recognized that pricing them was difficult.[4] The early practice for selling this instrument did not consider the age of the nominee, thereby raising interesting concerns.[5] These concerns got the attention of several prominent mathematicians[6] over the years, such as Huygens, Bernoulli, de Moivre and others:[5] even Gauss and Laplace had an interest in matters pertaining to this instrument.[7]
It seems that Johan de Witt was the first writer to compute the value of a life annuity as the sum of expected discounted future payments, while Halley used the first mortality table drawn from experience for that calculation. Meanwhile, the Paris Hôtel-Dieu offered some fairly priced annuities that roughly fit the Deparcieux table discounted at 5%.[8]
Continuing practice is an everyday occurrence with well-known theory founded on robust mathematics, as witnessed by the hundreds of millions worldwide who receive regular remuneration via pension or the like. The modern approach to resolving the difficult problems related to a larger scope for this instrument applies many advanced mathematical approaches, such as stochastic methods, game theory, and other tools of financial mathematics.
Types[edit]
Defined benefit pension plans[edit]
Defined benefit pension plans are a form of life annuity typically provided by employers or governments (such as Social Security in the United States). The size of payouts is usually determined based on the employee's years of service, age and salary.
Future of annuities[edit]
It is expected that the aging of the baby boomer generation in the US will increase the demand for this type of instrument and for it to be optimized for the annuitant.[15] This growing market will drive improvements necessitating more research and development of instruments and increase insight into the mechanics involved on the part of the buying public. An example of increased scrutiny and discussion is that related to privatization of part of the U.S. Social Security Trust Fund.
In late 2010, discussions related to cutting Federal taxes raised anew the following concern: how much would an annuity cost a retiree if he or she had to replace his or her Social Security income? Assuming that the average benefit from Social Security is $14,000 per year, the replacement cost would be about $250,000 for a 66-year-old individual. The figures are based upon the individual receiving an inflation-adjusted stream that would pay for life and be insured.[16]
European Court of Justice ruling[edit]
In March 2011 a European Court of Justice ruling was made that prevents annuity providers from setting different premiums for men and women. Annuity rates for men are generally lower than those for women because men, on average, have shorter life expectancies. The change means that either annuity rates for men will rise, annuity rates for women will fall, or a combination of both.
In the UK any annuities that are taken out after 21 December 2012 will have to comply with the ruling.