Q. I am in my mid 40s and expect my KiwiSaver to grow to over $200,000 over the next 20 years. In the UK where I grew up annuities were popular with retired people. How do they work and are they available in New Zealand?
A. An annuity is a contract with an insurance company. You enter into an agreement with them to pay you a fixed amount each month, for a lump sum payment. Essentially you take a gamble that you will live longer than average, while the insurance company will be better off if you die sooner rather than later. The insurance company takes various factors into consideration before making its offer including gender (because women live longer) and medical history - for example if you are a smoker or not.
Only one company in New Zealand, Fidelity Life, currently offers annuities. Because the demand for annuities is small the rates are not attractive, and so few people take them up. They are taxed at a higher rate than most KiwiSaver schemes, so are not tax-effective either. The market for annuities is much bigger overseas so the rates are better.
According to a Fidelity Life spokesman, if you handed over a lump sum of $200,000 today you would get a monthly annuity of around $642 per month, increasing by 3 per cent per annum to compensate for the rising cost of living. Your estate would get nothing when you died, so you would want to live for a long time.
If you look at those numbers, you'll see that $642 is not a very generous amount. It equates to just $7704 per annum, or a 3.85 per cent per annum return on your $200,000 with no capital repayment.
If you took your $200,000 and invested it at say 3 per cent p.a. after tax and decided to spend interest and principal over a 30-year retirement (to age 95), by my calculations you could draw down $843 per month - and finally run out of money at 95.
With our small population I'm not sure that annuities will ever be a popular or cost-effective option here. However, as people are living longer we have to come up with ways of making our retirement savings last longer. Unless you are in poor health, you should plan to live into your 90s.
Some retirees will be happy to live on NZ Super and leave their KiwiSaver for extras like home maintenance, car upgrades or holidays. Others will take a monthly withdrawal to top up their NZ Super. By the time you reach 65 you will have plenty to choose from, but they are unlikely to be labelled "annuities".
Shelley Hanna is an Authorised Financial Adviser FSP12241. Her disclosure statement is available on request and free by calling 8703838. The information in this article is of a general nature and is not intended to provide specific or personalised advice. If readers have any KiwiSaver questions they would like answered please go to www.peak.net.nz or email firstname.lastname@example.org.