Calculate an Annuity Withdrawal Considering Inflation

If you purchase an annuity with a minimum withdrawal guarantee, it seems like you have all basis covered. But wait--there's one tiny flaw in the overall picture. That flaw is inflation. Inflation changes the buying power of the dollar and in turn actually lowers the value of your money.

Find a comfortable rate of inflation that you believe exists. Usually the number is 1 to 2 per cent, but you can use 3 percent to be more comfortable that you're correct.

Calculate the number of years that you need to wait until you draw the money. If you're getting the payment immediately, calculate the number of years you need the money.

Use 3 percent as the inflation rate. To find the buying power of the rate, multiply it by .97. That is the effect of one year of 3 percent inflation on the dollars you recieve. Multiply the answer again by .97 to get two years. If you want the answer for 10 years, you can multiply the number first by .97 and the multiply each answer by .97 nine more times.

Add a guaranteed minimum return to the contract. If you've purchased a guaranteed minimum return and want to see what amount you can withdraw at retirement in terms of buying power, subtract the inflation rate from the guaranteed rate. An example would be 5 percent minus 3 percent inflation is a 2 percent return each year.

Multiply the amount you invested by 1.02 to get the true buying power for the next year. To do more years, continue to multiply each answer times 1.02 for the number of years of growth until you use the money.

Withdraw only 2 percent of the annuity if you have a guarantee of 5 percent and the buying power for that amount remains level since it grows as fast as the hypothetical inflation. If you withdraw the full 5 percent, the buying power drops by 3 percent each year and you need to multiply the amount each year by .97.

Tips & Warnings

• You can review charts that show the future value of a dollar and don't require you to do extensive calculations. Hand calculating, however, is a great tool you can use no matter where you are, as long as you have a simple calculator.