An assumed interest rate (AIR) is the interest rate used to calculate the periodic income payments that are made to the holder of the annuity. It is a term used by an insurance company to determine the value of an annuity. This interest rate is the minimum interest rate that a policy holder can earn on an annuity. The higher the interest rate, the more money the policy holder can earn from the policy. This includes higher monthly or periodic payments, as well as higher returns in the long-term.
Several factors go in to determining this interest rate. The first factor is the age of the annuity holder. If a spouse is covered by the annuity, this too can affect the assumed interest rate. The type of annuity chosen — fixed annuity or variable annuity — also affects the assumed interest rate of the annuity. The assumed interest rate directly affects calculating the monthly payments, or the periodic payments, that the annuitant receives.
Consumers that invest in annuities typically do so to generate income for retirement, but because people invest money for different reasons, this is not always the case. The assumed interest rate helps these policy holders to determine how much money they can expect to receive from this particular investment. Knowing this also permits them to plan for other investments, so they can ensure that they have enough money to live out their retirement years.
Many annuities also have cash values. This means that some consumers may leverage the assumed rate and the cash value of the policy to withdraw money from the annuity prior to reaching retirement. Some do this for emergency purposes, while others simply use annuities as part of their overall investment strategy and planning process.
Some assumed rate annuities pay on a monthly basis. Others pay the policy holders on a quarterly basis. Some policy holders choose an annual payment or simply withdraw money from the account as they need it.
As is the case with any type of investment that a consumer makes, there is an assumption or estimate made on how much of a return on investment the investor can expect. The assumed interest rate on an annuity is the same concept. The assumed interest rate is not a guarantee but does allow the policy holder to gauge approximately how much growth there will be in the annuity, be it variable or a fixed annuity.