What are Annuities
Basic definition of an annuity
Simply put, an annuity is a contract between an investor and an insurance company. The investor agrees to invest funds with the insurance company via a single payment (Single Premium) or by multiple payments over a period of time (Flexible Premium) . At the most basic level, all annuity contracts require that investment payment(s) be made to an insurance company, followed by a period of accumulation and then finally a period of distribution.
Annuity Accumulation Period
During the accumulation period of an annuity, the insurance company contractually guarantees to grow the funds, tax-deferred and then pay the investor a stream of income either immediately or at a deferred date designated by the investor. The terms Immediate Annuity and Deferred Annuity are generalized as the Type of Annuity and are used to describe the immediate or deferred features of the annuity contract. Investment interest from Annuities can be based on a fixed, indexed or variable rate. The terms Fixed Annuity, Indexed Annuity and Variable Annuity are generalized as the Annuity Investment Type and are used to desribe the fixed or vairable investment features of the annuity contract.
Annuity Distribution Period
In the case of an Immediate Annuity, investment distributions are contractually guaranteed to pay over a fixed period of time, known as a Fixed Period Annuity or over the course of the annuitants lifetime, known as a Lifetime Annuity. Fixed Period Annuities and Lifetime Annuites are generalized as the Annuity Payout Options. Deferred Annuities also have payout options that allow for regular withdrawals, up to a certain percentage, usually up to 10%. If the surrender period is expired on the deferred annuity, the annuitant can make withdrawals, at-will, without paying surrender charges. Deferred annuities can also be annuitized into a SPIA (Single Premium Immediate Annuity) and the annuitant will then receive annuity distributions based on the Immediate Annuity Payout Options. At the time the insurance company starts making distributions, the investment gains are taxed as ordinary income.
Annuities are offered by Insurance companies and sold through licensed agents. The insurance company must be evaluated and licensed in your state as does the agent. State insurance commissions scrutinize Insurance companies to ensure they have reserve funds, commonly referred to as State Legal Reserve Pools, in place to protect investors before granting insurance companies licenses.