An annuity is good way to supplement your retirement savings to ensure your golden years are as smooth as possible. By locking in a fixed monthly income in exchange for an upfront payment, you can make sure that you’ll be able to handle all of your bills and expenses when you are no longer working. If you decide to buy an annuity for your retirement, you’ll likely want to know what the future value of annuity is — or, in other words, what the total value of your annuity payments will be at any given point in the future. Luckily, there’s a future value of annuity formula to figure that out.
What Is the Future Value of an Annuity?
Before we cover what the future value of an annuity is, let’s first define annuity. An annuity is basically a financial contract that a person signs with an insurance company. You purchase the contract through either a lump sum payment or a series of payments, and then receive monthly payments in retirement.
The future value of an annuity is the total value of annuity payments at a specific point in the future. This can help you figure out how much your future payments will be worth, assuming that the rate of return and the periodic payment does not change. The future value of an annuity calculation shows the total value of a collection of payments at a chosen date in the future, based on a given rate of return. This is different from the present value of an annuity calculation, which gives you the current value of future annuity payments.
Knowing the future value of your annuity can be useful when planning for your retirement or any other aspect of your financial life. Once you know how much money your annuity payments may be worth, assuming you invest and have a certain rate of return, you can make plans based on your expected income.
Formula for Future Value of Annuity
This is the formula for determining the future value of an annuity:
P = PMT x (((1 + r) ^ n – 1) / r)
Here is what the variables represent:
- P = the future value of the annuity
- PMT = the value of each annuity payment
- r = the interest rate
- n = the number of periods over which payments will be made
To figure out the future value of your annuity, all you have to do is plug the relevant numbers into the above formula and follow the basic rules of mathematics. Remember to do the calculations inside of the parentheses first and then to apply all exponents. After that, you can move on to the other parts of the formula.
Example Calculation for Future Value of Annuity
When you plug the numbers into the above formula, you can calculate the future value of an annuity. Here’s an example that should hopefully make it clearer how the formula works and what you should plug in where.
Let’s say that you are getting a $50,000 annuity payment every year for the next 10 years, with a rate of return of 5%. Plugged into the formula, that would look like this:
P = 50,000 x (((1 + 0.05) ^ 10 – 1) / .05)
When you do the math, the future value of this annuity is $628,894.63. Now that you’ve figured this out, you can use this number when considering how you are planning your finances.
The Bottom Line
An annuity creates a guaranteed income for your retirement. While it is unlikely to be your sole source of cash during retirement, it can effectively supplement your IRA or 401(k). The future value of an annuity calculation shows what the payments from an annuity will be worth at a specified date in the future, based on a consistent rate of return. This number can be used to make financial planning easier because you’ll know more accurately how much your annuity payments will be worth in the future. This, in turn, enables you to make more informed decisions about your financial life.
- Regardless of whether an annuity is part of your retirement plan, a financial advisor can help you ensure you’re financially prepared for your golden years. SmartAsset can help you find a financial advisor who meets your needs with our free financial advisor matching service. You answer a few questions about your financial situation and goals. Then, we will match you with up to three advisors in your area. We have fully vetted all advisors on our platform and they are free of disclosures. Each of your matches will then reach out to you, giving you a chance to interview them.
- Knowing how much money is currently in your 401(k) account is great. What you really need to know, though, is how much money you can expect to have when you retire. You can get an estimate with SmartAsset’s free 401(k) calculator.
- A Roth IRA can also be a good way to save money for retirement. There are some specific rules, though, that you will need to follow. Make sure you’re up to date on all of the rules before saving with a Roth IRA.
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