How to Calculate an Annuity Payout

An annuity is an investment that accumulates interest on the principal over time. It is usually held by an insurance company. When you retire, you receive payments, including principle and interest that has accumulated. But when you are planning for your future and considering how large your annuity needs to be, you need to take into account the effect that inflation will have on your return.

Instructions

1. Get a realistic estimate of what you think inflation will be for the next few years. Of course, any estimate is just an educated guess, but you have to start somewhere. Let's say for argument it is 2 percent.

2. Figure up how many years pass before you retire and need the money. Call this number "years to retirement."

3. Subtract the inflation rate (our hypothetical 2 percent) from 100 percent. Convert this to a decimal, and this gives you a figure of .98. Take the result from this, and multiply it again by .98. This number will give you the spending value of each dollar of your principal when you retire.

4. Calculate the combined value of any principal and interest your might get by first taking the interest you are earning (say 4 percent) and subtracting the inflation rate (2 percent again) from it. Convert the result to a decimal. This would be, in this case, 1.02.

5. Multiply this number (1.02) by the principal. Keep doing this until you have done it the number of years to retirement. This gives you the value of your retirement in current dollars.