An annuity is a contract between you and an insurance company that requires the insurer to make payments to you, either immediately or in the future. You buy an annuity by making either a single payment or a series of payments. Similarly, your payout may come either as one lump-sum payment or as a series of payments over time.
Why Do People Buy Annuities?
People typically buy annuities to help manage their income in retirement. Annuities provide three things:
Periodic payments for a specific amount of time. This may be for the rest of your life, or the life of your spouse or another person.
Death benefits. If you die before you start receiving payments, the person you name as your beneficiary receives a specific payment.
Tax-deferred growth. You pay no taxes on the income and investment gains from your annuity until you withdraw the money.
What Kinds Of Annuities Are There?
There are three basic types of annuities, fixed, variable and indexed. Here is how they work:
Fixed annuity. The insurance company promises you a minimum rate of interest and a fixed amount of periodic payments. Fixed annuities are regulated by state insurance commissioners. Please check with your state insurance commission about the risks and benefits of fixed annuities and to confirm that your insurance broker is registered to sell insurance in your state.
Variable annuity. The insurance company allows you to direct your annuity payments to different investment options, usually mutual funds. Your payout will vary depending on how much you put in, the rate of return on your investments, and expenses. The SEC regulates variable annuities.
Indexed annuity. This annuity combines features of securities and insurance products. The insurance company credits you with a return that is based on a stock market index, such as the Standard & Poor’s 500 Index. Indexed annuities are regulated by state insurance commissioners.