A cash refund annuity refunds to a beneficiary any sum leftover should the annuitant die before breaking even on what they paid in premiums. Such a provision is typically included as a rider on a life annuity (also known as a "pure life annuity" or "straight life annuity"). It stipulates that if the annuitant passes away before the annuity payments received equal the annuity payments made, the annuity writer will pay the difference to a named beneficiary (usually a spouse). Such an arrangement, also referred to as a "life with cash refund annuity," typically means it will cost the annuity buyer more in premiums. For the annuity writer—usually an insurer—it is a valuable tool for compelling individuals to buy an annuity.
Breaking Down Cash Refund Annuity
Annuities are used to guarantee a constant stream of income over a specified period of time. Depending on the annuity features, the payments will either continue (such as in a life annuity) or stop when an annuitant dies. In a cash refund annuity, the annuity holder's beneficiary receives a lump sum. For example, assume a retiree purchases an annuity for $100,000 and receives $60,000 in annuity payments before passing away. The beneficiary, in this case, would receive $40,000 as a lump sum cash refund from the insurance company. An installment refund annuity would return the $40,000 in payments over a period of time instead of a lump sum. Because of the time value of money, a life annuity with an installment refund will generally pay a slightly higher guaranteed benefit to the original annuitant as compared to a life with cash refund annuity, which features a lump-sum payment.
Cash Refund Annuity Options
A cash refund feature in an annuity can take many forms. For example, under a Single Premium Immediate Annuity (SPIA), an individual may choose to structure their annuity as life with a cash refund or joint-life with a cash refund. In a life with cash refund annuity, payments are made until the annuitant dies, then if any balance remains between the sum of the premium payments and the sum of the payouts, that remainder is paid to the annuitant's beneficiary. A joint life with cash refund annuity works the same way, except that it continues to make payments until both named individuals die (usually both spouses), then will pay any leftover balance to a named beneficiary. In such an annuity option, the payments due to the surviving spouse may be exactly the same as if both spouses were still alive or may be lower if the annuity was structured to provide a greater payment while both spouses are alive at the cost of a lower payment after one spouse dies.