What is an Annuity Table
An annuity table is a tool for determining the present value of a structured series of payments. Such a tool, used by accountants, actuaries and other insurance personnel, takes into account how much money has been placed into an annuity and how long it has been there to determine how much money would be due to an annuity buyer or annuitant. Figuring the present value of any future amount of an annuity may also be performed using a financial calculator or software built for such a purpose. An annuity table is a variation of a present value table used by accountants.
What Is An Annuity?
Breaking Down Annuity Table
An annuity table provides a factor, based on time and a discount rate, by which an annuity payment can be multiplied to determine its present value. For example, an annuity table (such as this one) could be used to calculate the present value of an annuity that paid $10,000 a year for 15 years if the interest rate is expected to be 3%.
According to the concept of the time value of money, receiving a lump sum payment in the present is worth more than receiving the same sum in the future. As such, having $10,000 today is better than being given $1,000 per year for the next 10 years because the sum could be invested over that decade. At the end of the 10-year period the $10,000 lump sum would be worth more than the sum of the annual payments even if invested at the same interest rate.
Annuity Table Uses
A lottery winner could use an annuity table to determine whether it made more financial sense to take his lottery winnings as a lump-sum payment today or as a series of payments over many years. Lottery winnings are a rare form of annuity. More commonly, annuities are a type of investment used to provide individuals with a steady income in retirement.
Annuity Table and Present Value of an Annuity
The formula for the present value of an ordinary annuity, as opposed to an annuity due, is as follows:
P = PMT x ((1 - (1 / (1 + r) ^ n)) / r)
P = the present value of an annuity stream
PMT = the dollar amount of each annuity payment
r = the interest rate (also known as the discount rate)
n = the number of periods in which payments will be made
Assume an individual has an opportunity to receive an annuity that pays $50,000 per year for the next 25 years, with discount rate of 6% or a lump sum payment of $650,000, and needs to determine the more rational option. Using the above formula, the present value of this annuity is:
Present value of annuity = $50,000 x ((1 - (1 / (1 + 0.06) ^ 25)) / 0.06) = $639,168
Given this information, the annuity is worth $10,832 less on a time-adjusted basis and the individual should choose the lump sum payment over the annuity.
Note, this formula is for an ordinary annuity where payments are made at the end of the period in question. In the above example, each $50,000 payment would occur at the end of the year, each year, for 25 years. With an annuity due, the payments are made at the beginning of the period in question. To find the value of an annuity due, simply multiply the above formula by a factor of (1 + r):
P = PMT x ((1 - (1 / (1 + r) ^ n)) / r) x (1 + r)
If the above example of annuity due, its value would be:
P = $50,000 x ((1 - (1 / (1 + 0.06) ^ 25)) / 0.06) x (1 + 0.06) = $677,518
In this case, the individual should choose the annuity due because it is worth $27,518 more than the lump sum payment.