What is 'Assumed Interest Rate (AIR)'

The assumed interest rate (AIR) is the rate of interest or growth rate selected by an insurance company. The assumed interest rate is provided to determine the value of an annuity contract and, therefore, the periodic income payment provided to the annuitant. Combined with other factors such as the annuitant's age upon annuitization, spousal coverage options and the type of annuity coverage chosen, the AIR determines the monthly payment the annuitant will receive.

BREAKING DOWN 'Assumed Interest Rate (AIR)'

In other words, assumed interest rate (AIR) is the minimum interest rate that must be earned on investments in the policyholder's cash-value account in order to cover the insurance company's costs and expected profit margin. A larger AIR will result in a more robust prediction for market returns, as well as greater monthly income payment for the annuitant.

The AIR is not a guaranteed rate of return. Rather, it is an earnings target that the insurance company sets for the annuity account. The account must meet this earnings target in order maintain payment levels. As annuity value changes, the payment received by the investor changes. If the account outperforms the AIR, an investor can expect his or her payments to increase in size. If performance falls below the AIR, payments will decrease in size. Performance is always measured against the AIR, not past performance.

An annuity payment is based on the number of annuity units owned by the investor, multiplied by the annuity unit value. When performance equals AIR, annuity unit value remains unchanged, and so will the investor's payment. Thus, selecting a realistic AIR is very important. If the AIR is too high, the value of the annuity unit will continue to fall, along with the investor's payment. If the account outperforms the AIR, the value of the annuity unit will continue to rise, and so will the investor's payment. The AIR is only relevant during the payout phase of the contract when the investor is receiving payments and owns annuity units. The accumulation of units during the accumulation stage – or if benefits are deferred – is immaterial to the assumed interest rate.

Assumed Interest Rate Example

In a variable annuity, the annuitant receives a minimum guaranteed periodic payment that is tied to the performance of the annuity's underlying investments. Therefore, an assumed interest rate of 5 percent on $1 million of principal would generate larger minimum payments to the annuitant than an annuity performing at 2 percent. Although the annuitant can receive additional payments if the annuity's underlying assets outperform expectations, the minimum guaranteed payment is tied to the assumed interest rate.

RELATED TERMS
  1. Whole Life Annuity Due

    A whole life annuity due requires annuity payments at the beginning ...
  2. Life Annuity

    A life annuity is an insurance product that features a predetermined ...
  3. Certain And Continuous

    Certain and continuous is a type of annuity that guarantees a ...
  4. Annuitization Phase

    The Annuitization Phase is the period when the annuitant starts ...
  5. Term Certain Annuity

    A term certain annuity is an insurance product that guarantees ...
  6. Annuity Contract

    An annuity contract is a written agreement between an insurance ...
Related Articles
  1. Retirement

    Buying Annuities in a Low Interest Rate World

    Learn if buying an annuity makes sense in a low interest rate environment. Also discover the different types of annuities and how interest rates affect them.
  2. Financial Advisor

    Advising FAs: Explaining Annuities to a Client

    Conceptually speaking, annuities can be thought of as a reverse form of life insurance.
  3. Retirement

    What Is the Best Age to Get an Annuity?

    Optimizing the benefits of an annuity means guaranteeing a stream of income you can't outlive.
  4. Investing

    An Overview of Annuities

    Annuities provide a guaranteed income stream. Learn how they work and their benefits.
  5. Retirement

    Immediate Annuities: Guaranteed Payout At A Price?

    This vehicle can have very low, or even negative, rates. Find out when it pays to invest.
  6. Retirement

    Are Annuities Retirement-Only Investments?

    Learn more about why annuities are generally purchased and the way that they can positively and negatively affect an individual preparing for retirement.
  7. Investing

    Just Say No to Variable Annuities

    Sellers of variable annuities make them sound great to earn their commission, but they are not.
  8. Retirement

    Guaranteed Retirement Income in Any Market

    By laddering annuities, you can be sure you'll have income no matter what the market does.
  9. Retirement

    Who Benefits From Retirement Annuities

    Annuities guarantee some degree of fixed income in retirement. But is the security worth the fees and less favorable tax treatment? How to decide.
Hot Definitions
  1. Economies of Scale

    Economies of scale refer to reduced costs per unit that arise from increased total output of a product. For example, a larger ...
  2. Quick Ratio

    The quick ratio measures a company’s ability to meet its short-term obligations with its most liquid assets.
  3. Leverage

    Leverage results from using borrowed capital as a source of funding when investing to expand the firm's asset base and generate ...
  4. Financial Risk

    Financial risk is the possibility that shareholders will lose money when investing in a company if its cash flow fails to ...
  5. Enterprise Value (EV)

    Enterprise Value (EV) is a measure of a company's total value, often used as a more comprehensive alternative to equity market ...
  6. Relative Strength Index - RSI

    Relative Strength Indicator (RSI) is a technical momentum indicator that compares the magnitude of recent gains to recent ...
Trading Center