Assumed Interest Rate - Expained
What is an Assumed Interest Rate?
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Back To: INSURANCE & RISK MANAGEMENT
What is an Assumed Interest Rate?
The assumed interest rate (AIR) refers to an interest rate or growth rate used by an insurance company to calculate the value of an annuity contract and its payout. An insurance company determines AIR and it serves as the benchmark for the annuity's periodic income payment that an annuitant would receive at the due time. When calculating the payout of an annuity contract, the assumed interest rate is a crucial metric. There are diverse factors that are considered when an insurance company is o determine AIR, these include the age of the annuitant upon annuitization, the type of annuity coverage, the coverage options, and others.
How Does an Assumed Interest Rate Work?
The assumed interest rate (AIR) as used by an insurance company determines the minimum rate of return that a variable annuity's separate account must realize during the payout so as to maintain a steady annuity payment to the annuitant. It refers to the minimum interest rate that the insurer must earn on the cash value of the annuitants policy that will help the insurance company cover its costs and also maintain an expected profit margin. This means the higher the AIR, the higher monthly income an annuitant would receive and the higher the profits that the insurance company would make. The AIR is determined by insurance companies, it is the target rate of return they set on annuity separate accounts in order to have steady payments and also pay all costs. The AIR is not a guaranteed rate of return given that there is no fixed return that annuity's separate accounts record. However, if an annuity account performs above the AIR, the annuitant would receive higher payments but the reverse is the case when the account performs below the AIR. The AIR takes into account the value of an annuity, the type and the annuitants age at the time he would begin to receive monthly income payments.
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