Types of Annuities
An annuity is a means of generating an income from cash or other assets, which can be used as a retirement planning vehicle. Annual fixed payments are made from the annuity issuer to the holder, for as long as one lives. Annuities can provide guaranteed lifetime incomes for as little as a few years, and as long as 100 years. This is unlike other income-generating products, such as bonds or dividend stocks, which cannot guarantee payments after the payer’s death.
Types of Annuity
A variable annuity usually returns more than a fixed one, but with greater risk. The amount of gain or loss is tied to the performance of an investment manager’s portfolio. Annuities can be used as part of a risk management strategy that includes bonds and stocks, or simply as a way to fund retirement income.
A hybrid of a fixed and variable annuity, an indexed annuity combines the higher returns of stocks and long-term bonds with guaranteed lifetime income.
An immediate annuity provides for income for a specific period of time, typically less than 10 years. If the annuitant passes away before this period is over, the contract will be repaid to their designated individual or organization.
A deferred annuity allows payments to start after an initial investment has been made in a tax-deferred manner. Payments can be made in a lump sum, through regular payments, or through a combination of the two.
Guaranteed Lifetime Annuities
A guaranteed lifetime annuity is where income payments continue as long as the person who receives them is alive, regardless of how much they received in payments. This guarantees that the annuity payment will last for as long as the individual lives.
Fixed With Periodic Annuities
A fixed-with-periodic annuity is where payments vary in length based on market interest rates and guaranteed lifetime income after a set period of time. There are various ways to finalize this, such as a guaranteed period of payments and a guarantee that the annuity holder’s yearly payment will never go down.
Variable With Periodic Annuities
In a variable-with-periodic annuity, income is based on market interest rates and other investments. Annual payments may vary from year to year as well as increase or decrease one’s money over time.
Indexed With Periodic Annuities
An indexed-with-periodic annuity is like the variable with periodic, but it has an additional element that provides guaranteed lifetime income even if interest rates lower each year.
Comparing Annuity Options
There are several things to consider when choosing an annuity:
- the amount you wish to receive each year;
- how long you want payments to continue;
- the interest rate that will be used to calculate payments;
- if premium increases are included in such as guaranteed period and,
- what happens if the annuity holder passes away before these periods ends.
Annuities can help protect one’s retirement savings from inflation and taxes. They also provide for a steady stream of income, which helps minimize uncertainty about how much money one will have at their disposal each year during retirement. An experienced financial adviser can help you choose from the many types of annuity options and develop a strategy that fits your needs.
The Bottom Line
Annuities are a good way to fund retirement income. They provide for steady payments to help avoid market risk and can increase one’s overall savings, especially if it is used over time with after-tax money rather than paying taxes on each payment. However, they also come with expenses that include fees, commissions, and sometimes surrender charges. Specialty annuities can offer higher returns and more diverse investment options.
About the Author
True Tamplin, BSc, CEPF®
True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.
True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide, a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.