W6

Question 1

reverse mortgage

Answer 1

A reverse mortgage allows retirees with no income to convert their home equity into cash. The bank provides monthly payments to the homeowner until they pass away, at which point the bank takes ownership of the house

Question 2

Annuities

Answer 2

• Pay lump sum and get constant flow of annuities until death
• Annuity rates: monthly payment depends on interest rates

Question 3

Lower interest rates does what to annuity prices and why?

Answer 3

Lower interest rates mean that the discount rate applied to future annuity payments is lower. As a result, the present value of these future payments increases because the payments are discounted less. This higher present value means that the insurance company must charge a higher price upfront for the annuity to ensure they can meet the guaranteed future payments to the annuitant. Thus, with lower interest rates, annuities become more expensive to purchase.

Question 4

Real after tax return formula

Answer 4

Real after tax return: 1+(1-τ)r-π