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Question 2 of 31 in Basics |
Risk and annuities |
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In a sense, an annuity is the reverse of a life insurance policy. Life insurance insures you against the risk of your dying too soon, but an annuity protects you against the risk of your living too long (which could result in your money running out while you are still alive). In a life insurance contract, there is a risk to the insurance company that the insured person may die earlier than expected; thus requiring the company to pay out money sooner than it planned. In the case of an annuity, the major risk to the insurance company is that the person may live a very long life — requiring more payments than the insurance company expected. Another risk is that the company may not be able to earn as great a return on its investments as planned, and so it may have less money to make payments when they are due. It is wise to buy an annuity only from a financially strong insurance company. Such a company is more likely to be able to pay its obligations. As with life insurance, the risk of annuities is spread over many people who have such contracts. This makes it easier for the insurance company to predict its risk.
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