An annuity is a financial product that can be purchased (i.e. from an insurance company or investment company) to be utilized in a retirement or long-term savings plan. It provides you with a stream of income monthly, quarterly, annually or in a lump sum.
It can lock you into a contract for a significant period of time during which you may be penalized for early withdrawal of all or part of the money.
What are the Different Types of Annuities?
You can work with an insurance company to structure the annuity to meet your specific needs. The annuity can be drawn up to pay out over a specified period of time, such as for the life of the annuitant or just until twenty years. Annuities can be fixed or variable, or may offer a hybrid feature called an indexed annuity.
- Fixed Annuity: As the name suggests, a fixed annuity contract can be structured to provide a guaranteed income for a fixed term.
- They are an insurance product and as such, have many of the same benefits of other insurance products, like life insurance policies.
- There is tax-deferred growth, safety of principal and guaranteed income payments, but you can be penalized for early withdrawal if done outside the permitted locked period
- Variable Annuity: A variable annuity is an investment product that allows you to select where you want your money to be invested. You may achieve higher rates of return depending on your investments, but your income stream amount is not guaranteed.
- A variable annuity can be structured to include a guaranteed death benefit that will give the beneficiary death benefits before the annuity begins paying cash.
- Withdrawals here are also limited with early withdrawal penalties that may be prohibitive. Variable annuities are considered securities so are regulated by the SEC.
- Indexed Annuities: These annuities have features common to both fixed and variable annuities. The insurance company or investment firm offers a return based on the changes in an index, like the S&P 500 Composite Stock Price Index.
What are Some Disadvantages of an Annuity?
While annuities can be a great option to meet long-term planning goals, they carry clear disadvantages. For example, you do not get to access all of your money all at once and there are penalties for withdrawing them before time.
Therefore, before you sign an annuity contract, be sure you are able to leave your money where it is for the length of the contract. It is always a good idea to have cash available on hand, in the case of an emergency.
There also may be a significant commission fee and ongoing investment management fees. As well, annuities are so named because they are based on your life expectancy.
Who Can Sell Annuities?
You can purchase an annuity from a life insurance company or an investment company. Sellers of annuities need to be properly licensed. Annuities are regulated by the Securities and Exchange Commission and the Financial Industry Regulatory Authority.
It is important that you do your research before you decide to sign a contract with a financial company to purchase an annuity. Get different quotes and get recommendations from people you trust. This is an important decision so it is crucial that you understand what each type of annuity offers and whether it is structured to meet your objectives.
Who Can Buy Annuities?
An annuity can be purchased by a defendant in a personal injury lawsuit that can be used to settle with a plaintiff or pay off a judgement. It allows the defendant to authorize payment of a structured settlement or judgment in installments over a specific period of time instead of as a lump sum.
If the plaintiff thereafter wants to receive a lump payment instead of periodic payment, they would sell their structured settlement to a company that offers that service.
As well, they are great for people who need guaranteed retirement income or for people who may need long-term care. However, because of the early withdrawal penalties, they are probably not a great product for younger people.
What Happens to My Annuity If I Die?
The answer to this question depends on your contract. If you die before your beneficiary starts to receive cash from your annuity, your beneficiary can either receive the cash value of your contract or assume payments. If this is considered a premium feature of your annuity, you may have to pay for this additional option.
Do I Need to Consult an Attorney Before I Purchase an Annuity?
Annuities are regulated financial products and are sold through licensed sellers. You should speak to a professional seller—insurance company or investment company—with a top reputation. They should be a company that regularly sells these products and can help you understand the different types of annuities, including their advantages and disadvantages. A finance attorney can help you consider whether an annuity makes sense during a settlement negotiation or to pay damages you have been ordered to pay in a lawsuit.