Chapter 5 Annuities

Why do we need annuity?

退休就係駛錢嘅遊戲
Life expectancy for Hong Kong people

Source: https://www.chp.gov.hk/en/statistics/data/10/27/111.html
Definition of annuity
 An annuity is a series of periodic payment that continues for a fixed period or for the
duration of a designated life
 The person who receives the periodic payments is known as the annuitant
 Annuity-certain
• A stream of payments that is certain to be made
for a fixed period of time, e.g. mortgage
payments
• The number of payments is certain

Types of • Payments are usually made regularly, e.g.

monthly payments

annuity Life annuity

• A stream of payments that is made until the
death of the annuitant
• Since the lifetime of the annuitant is uncertain,
the number of payments is also uncertain
• Payments are also usually made regularly
  Sum of the first terms of a geometric
series (for )

Revision – sum
of geometric  Infinite sum of geometric series (for )

series
Life annuity
Present value of life annuity – immediate annuity
 Immediate annuity: an annuity in which payments commence one year after the
purchase
 Jane, who just had her 60th birthday, wants to purchase a life immediate annuity that
pays $120,000 each year. (That is, Jane expects to receive $120,000 each year,
starting from her 61st birthday until her death)
 Assume that the probability of death each year is 0.02 for Jane and the annual
interest rate is 5%, how much should Jane pay now to purchase this annuity?
 Amount that Jane should pay now to purchase the annuity
Present value of life annuity – deferred annuity
 Deferred annuity: an annuity in which payments commence only after a deferred
period
 Exercise: Suppose that Sally, who just had her 30th birthday, wants to purchase a
deferred life annuity that pays $240,000 each year starting from her 60 th birthday
until her death.
 Assume that the probability of death each year is 0.01 for Sally and the annual
interest rate is 4%, how much should Sally pay now to purchase this annuity?
Annuity-certain
Present value of annuity certain – immediate annuity
 Peter wants to purchase a 5-year immediate annuity that pays $10,000 each year.
 (Immediate annuity: an annuity where the first payment is due one payment interval
from the date of purchase)
 Assume an annual interest rate of 5%, how much should Peter pay now to purchase
this annuity?
 Amount that Peter should pay now to purchase the annuity
Present value of annuity certain – immediate annuity
 Exercise: John wants to purchase a 10-year immediate annuity that pays $120,000
each year. Calculate the lump sum that John needs to pay now to purchase this
annuity. Assume an annual interest rate of 5%.
Present value of annuity certain – deferred annuity
 Peter just had his 56th birthday. He decided to buy a 4-year deferred annuity, from
which he will start to receive the first payment on his 60th birthday. He will receive
annual payment of $10,000 from the annuity and the last payment will be made on
his 65th birthday.
 Assume an annual interest rate of 5%, how much should Peter pay now to purchase
this deferred annuity?
Present value of annuity certain – deferred annuity
 Amount that Peter should pay now to purchase the deferred annuity
HKMC Annuity Plan
 Launched by the HKMC Annuity Limited in 2018
 HK Elderly aged 60 or above can apply for the HKMC Annuity Plan
 Minimum Premium: $50,000
 If the insured dies and the total annuity payment received previously are less
than 105% of premium, then the annuity payment will continue to be made to
the beneficiary until the total annuity payment reaches 105% of premium.
 Assuming a policyholder aged 65, the monthly annuity income are as follows:

Sex/Premium $50,000 $100,000 $500,000 $1,000,000

Male $290 $580 $2900 $5800
Female $265 $530 $2650 $5300
Public vs. private annuity plans

 https://www.ifec.org.hk/web/en/financial-products/insurance/product-types/
annuity/compare-public-and-private-annuities.page
What is Qualifying Deferred Annuity
Policy (QDAP)?
Qualifying Deferred
Annuity Policy (QDAP)
 Premiums for QDAP are tax
deductible, subject to the upper
limit of $60,000 per year
 Launched in 2019
 QDAP has the following features:
 Minimum total premiums of
$180,000
 Minimum payment period of 5
years
 Minimum annuity period of 10
years
 Annuitization at the age of 50 or
beyond
How much tax do you save by purchasing QDAP?

Assuming an annual premium of $60,000

Marginal Tax
Taxable Income Tax Saved
Band

$120,000 (6%, 10%) $4,400

$180,000 (10%, 14%) $7,200
$240,000 (14%, 17%) $9,600
$300,000 17% $10,200
QDAP or Tax Deductible MPF Voluntary Contributions?