What are Annuities?
Annuities are financial products that grant an individual a regular source of income, often during retirement. At its simplest, an annuity is an insurance contract that a consumer purchases, either through a lump sum or periodic premium payments. Typically carried by insurance companies, annuities have become a popular financial instrument for many consumers’ retirement needs.
Although recent innovations have developed many different types and versions, most annuities follow the same basic structure: a consumer purchases the contract and payout benefits are triggered at some point in the future. Many annuities are used as long-term savings vehicles and accumulate cash value, which is particularly useful in hedging against inflation. With elected features, it is also possible to guarantee an income stream that lasts your entire life.
Deferred and Immediate Annuities
Annuities can be broken down into two basic categories, deferred and immediate. With a deferred annuity, the benefit trigger date is delayed, often for a significant period of time. During this deferral period, the contract accumulates tax-deferred cash value, meaning that gains are not subject to income tax until distribution. With an immediate annuity, the contract is purchased with a lump sum transaction and benefits are drawn upon immediately (or nearly immediately). You might see these types of contracts referred to as Single Premium Immediate Annuities (SPIAs) because of this.
Types of Annuities
There are a handful of deferred annuities and these are identified by how they accumulate cash value. For instance, in a traditional fixed annuity (FA), the annuity interest rate is fixed and declared by the issuing carrier. In a fixed indexed annuity (FIA, equity index annuity), the interest rate is tied to the performance of a specific stock market indexed. With a deferred variable annuity, the contract is subject to direct market exposure, meaning that the interest rate will vary greatly based on market performance.
Immediate annuities, such as Single Premium Immediate Annuities, do not involve a significant deferral period and as such, there is not an accumulation component. However, interest rates are still involved with SPIAs, which are used to determine payout amounts and payout frequency. For instance, in a Single Premium Immediate Fixed Annuity, the benefit amount is fixed and based on the contract purchase amount.
A Deferred Income Annuity (DIA), also known as a longevity annuity, is a relatively recent financial product. In this contract type, lifetime income is built into the product. Somewhat similar to a SPIA, Deferred Income Annuities are often purchased with a lump sum transaction, although some carriers will allow contributions over the purchase amount. In essence, the longer an individual waits to trigger benefits, the more value accumulates.
So whether you are twenty years from retirement, or are retiring next year, there is an annuity option for you to consider.
The information above is a high-level breakdown of annuities, aimed at giving you a better idea of what they are and how they work. As you can imagine with any type of financial product or contract, the specifics can be incredibly detailed and somewhat complicated. What will work for you will depend on your unique set of needs and objectives.
This is why is it is absolutely critical that you work with a financial advisor for your retirement planning needs. At Tremont Street Financial Group we are here to help you develop your best-fitting retirement program and find the solutions that fit your needs. We bring many years of experience, knowledge, and care to all of clients.