- An annuity is a contract in which an insurance company makes a series of income payments at regular intervals in return for a premium or series of premiums you have paid.
- Annuities were originally designed to provide income for life starting either right away, which are known as Immediate Annuities, or starting at a later date, which are known as Deferred Annuities.
With a Deferred Annuity the decision to start income is optional and with the majority of contracts this option never has to be exercised. An annuity is neither a life insurance or health insurance policy. It is not a savings account but a vehicle that has a set time or surrender period, ranging from as short as 3 years and as long as 17 years.
A Deferred Annuity has two parts or periods. During the accumulation period the money you put into the annuity, less any applicable charges, earns interest. The earnings grow tax deferred, as long as the funds are left in the annuity. At the end of the surrender period a person can withdraw all their funds, leave the funds there to continue to accumulate, or utilize a 1035 tax free exchange and move the funds to perhaps a better annuity. During the second period, know as the payout period, although often not exercised by the majority of annuity owners, the company pays out income to the person specified for either a set period of time or for life, depending upon the election that was made.
An annuity can be a single premium, which is funded by one deposit, or a flexible premium, which can be funded by a series of payments either within one year or for some contracts for multiple years.
Fixed or Variable
The terms fixed or variable refers to the payout stream if a Deferred Annuity is actually annualized or turned into a stream of income, which is either elected as a lifetime payout, or for a set time period.
With a Fixed or Fixed Index Annuity, the payment is determined at the time of election and it is fixed, or will not change for the remainder of the time period.
With a Variable Annuity, because the value fluctuates daily since the funds can be tied to a mutual fund type of investment, the value of the payment is variable as it can fluctuate also, since the unit value will change depending upon the underlying investment.