What is Annuitization

When an annuity contract reaches maturity, the annuitant/ policy owner has several options. One of these options is to “annuitize” the annuity contract. Annuitization refers to the process of converting the cash value of an annuity into an income stream for the annuitant(s). Annuitization also involves selecting a “settlement option” that determines payments to beneficiaries if the annuitant should die within a defined period from the date of annuitization.

An annuity has two phases: the accumulation phase and annuitization phase. The accumulation phase is the pre-maturity period, where the cash value of an annuity grows based on its accumulation rate and contributions (minus any withdrawals). The annuitization phase involves liquidating the annuity through fixed annuity payments for a period certain or for the remainder of the annuitant’s life. Rolling over annuity funds or receiving a full lump sum from an annuity at maturity is not annuitization. For annuitization to occur, liquidation must occur solely via conversion to an income stream.

For example, assume that you buy a Single Premium Immediate Annuity with $100,000.00. An immediate annuity annuitizes immediately, typically within a month of the provider issuing the annuity contract. The annuity provider would normally select an annuitization rate based on the intersection of the annuitant’s age and gender with a preset annuitization schedule. If the rate for the annuitant is 6.0 (or $6.00 for every $1000.00 of the cash value), then the annuitant in this example would receive a monthly annuity payment of $600.00. Once the annuitant opts for annuitization, the payment schedule is generally unalterable.

Several factors determine the size of the annuitization payments. The annuitant’s age, gender and the settlement option chosen are the main factors that influence the annuitization schedules. Actuaries normally determine how much income the annuitant will receive per $1000.00 of the annuity’s cash value. Age and gender affect the life expectancy of the annuitant. Generally, the longer you are expected to live, the smaller your annuitization payment would be.

As part of the settlement option, the annuity provider gives the policy owner of an annuity contract the option of selecting a guaranteed period (or period certain). With a period certain in place, the annuity provider normally reduces the annuitization payments to accommodate it. Annuity providers can guarantee annuity payments fully or partially. This ensures that annuitants have access to the same safety net that obtains in the accumulation phase.

Annuitization is a critical phase in the duration of an annuity contract. In the case of immediate annuities, it is the only phase of the contract. One of the major features of an annuity is provision of guaranteed lifetime income. Annuitization is the term that defines the liquidation of an annuity for this purpose or for an income stream for a defined period.