Annuities are offered by insurance companies and depending on the type, may pay an annual or a monthly sum to the person who holds the annuity. A policy holder is known as an annuitant. Annuities may pay for a specific amount of time (i.e. a number of pre-specified years) or they may pay over the lifetime of the annuitant.
Annuities are used to provide additional income that you can use when you retire to supplement your IRA accounts, pension plans and other forms of planned income. Occasionally, annuities are the result of a settlement of a lawsuit or possibly a lottery winning.
Variable annuities pay according to the performance of the underlying securities, whether they are bonds or mutual funds. Fixed annuities pay fixed amounts or amounts that increase over time on a pre-determined scale.
Those who hold variable annuities are generally able to move in and out of the underlying securities without incurring additional fees (i.e. sales charges) and the funds deposited to an annuity are typically tax deferred allowing the investor to not pay taxes until the funds are withdrawn from the annuity.
Annuities are often used by people when they liquidate a 401(k) or other type of retirement account, allowing the annuity holder to time the payments that they will be receiving. This can be very beneficial since 401(k) and other retirement accounts are subject to market fluctuations often decrease in value.
There are three (3) basic types of annuities
A) Fixed annuities – the insurance company guarantees a minimum rate of return during the time your account is not paying out, as well as a guarantee that the periodic payments will be a specified amount which may last for a fixed’ period of time or may last through the lifetime of the annuitant(s);
B) Variable annuities – make no guarantee of the amount of return; the return is based on the performance of the underlying investments; or
C) Index annuities – a combination of each (variable and fixed) are governed by the Securities and Exchange Commission (SEC) since they are considered an investment vehicle.
Investors may consider using annuities in combination with their other retirement accounts, allowing them to make regular contributions over time and then receiving regular payments until they die. Some annuities have life insurance components where a lump sum is paid to a beneficiary or the beneficiary may have the option to receive the annuity payments that the annuitant was receiving.