What are Annuities?
October 27, 2007
Many consumers have heard of annuities but may not be sure exactly what they are. Annuities come in all shapes and sizes but they do have some common characteristics between them. This article can only cover the basics of annuities, but it can give you a better understanding of what they are and how they are often used.
An annuity is basically a deferred investment contract in with future payments will be made. These payments can be made monthly or annually, depending on the terms of the annuity.
The payments are made to a person who is known as the annuitant. In life insurance this would be known as the beneficiary. The annuitant receives payment for a certain amount of time. Normally, there is only one annuitant but there can be more if the annuity is set up that way.
Annuities can be used for various purposes; they are not restricted to simply being used for death benefits. Some examples of how an annuity might be used include: providing income during retirement; they might be used to fulfill a personal injury claim in which a stream of income is required to be paid to the injured. This is also known as a structured settlement. There are other types of annuities called joint life annuities that continue to pay a second person once the first person has died.
Some annuities make payments in fixed amounts or in amounts that increase by a fixed percentage over time. These are called fixed annuities. Variable annuities, on the other hand, pay varying amounts according to the investment performance that it is involved in such as bond and equity mutual funds.
An annuity can be an insurance product and they are often issued by the same companies that issue life insurance policies. In a single premium annuity, the annuitant pays for the annuity with a single lump sum of cash. The annuity starts making regular payments to the annuitant within a year. Why would someone want this?
One reason someone might consider this is it can act as a destination for roll-over retirement savings upon retirement. The retiree withdraws all of the money that has been saved, for example, in a 401(k) account and uses the money to buy an annuity and those annuity payments will replace the retiree’s wage payments for life.
The advantage of such an annuity is that the annuitant has a guaranteed income for the course of his or her life. If the retiree were instead to withdraw money regularly from the retirement account, the retiree might run out of money before he or she dies.
Another kind of annuity is a combination of retirement savings and retirement payment plan. In this case, the annuitant makes specified and regular contributions to the annuity until a certain predetermined date and then receives regular payments from the annuity until the annuitant dies. In some cases, this is combined with some form of life insurance. If the annuitant dies before annuity payments begin, a beneficiary gets either a lump sum or annuity payments.
As you can see, annuities can be very useful, flexibly, and fill needs that other types of investment savings cannot. The rules concerning annuities change, so make sure that you do your research before signing up for one