What is an Annuity?

An annuity is a financial product that can offer tax-advantaged options to protect or grow your initial or reoccurring investments while providing protected income in retirement.

Annuities are contracts that work as insurance against outliving your savings while providing protection against market drops. Annuity payments can be paid out immediately or deferred over time, which can span from 10 years to the remainder of your or your beneficiary’s life.

Because they are contracts, annuities can also be customized to meet your specific needs and fit your objectives and comfort level with risk.

You can choose to purchase an annuity with fixed payments which defines a set amount you or a beneficiary will receive exactly ahead of time in the contract. Or you can purchase a variable annuity with the potential for higher or lower payments, depending on the performance of a traditional investment portfolio.

Who Buys Annuities?

Annuities are appropriate financial products for individuals seeking steady or moderate growth with the option for guaranteed retirement income. Because the lump sum put into the annuity is illiquid and subject to withdrawal penalties, it is not recommended for those with liquidity needs to use this financial product. Annuity holders cannot outlive their income stream, which hedges longevity risk.

How Do Annuities Work?

You can fund an annuity in a few different ways, including with a rollover from your existing IRA, 401(k), 403b, 457, Non-Qualified accounts, or even a pension benefit. You can also add money into your annuity over time. You have the ability to choose how your money is invested by the insurance company. Some annuities invest in the market which can provide greater upside potential but with fewer downside protections, while other annuities may offer a fixed rate of return or interest rate.  

Other annuities called indexed annuities can be linked to the performance of a market index offering upside potential but retaining the downside protections. When you and your financial professional decide the time is right, you can begin taking income payments. 

Free Look Period

Most variable annuity contracts have a “free look” period. It’s a test run on the annuity for you to determine if it’s right for your situation. This is a time of 10-31 days in which you can cancel your contract without paying surrender fees.

If you decide to terminate the contract, your premium will be returned to you. The amount may be affected by the performance of your investments during the free look period.

Death Benefits of Annuities

All variable annuities include a death benefit.

If the contract has not been annuitized, the insurer will make a death benefit payment to the beneficiary named on the contract after the annuity owner or annuitant dies. The death benefit beneficiary is guaranteed to receive the premium or current value of the contract, whichever is greater, minus any withdrawals and fees.

The standard death benefit is available at no cost above the contract’s mortality and expense charge. It allows your beneficiary to receive the current value of the contract.

Many insurers have created new death benefits with additional guarantees. These options can include locking in investment performance at a specific time or guaranteeing a minimum periodic increase in the death benefit.

Any enhanced annuity death benefit is optional, carries slightly higher fees than the standard death benefit and may have age restrictions. Keep in mind that the beneficiary of your annuity will also inherit your obligation to pay income tax on the difference between what you paid for your annuity and what it’s worth when you pass away.

All annuities have surrender charges.

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