It's never too early to start saving for your golden years, but choosing the right retirement strategy can be tricky. Contributing to an employer's retirement plan or an IRA can help you to grow your savings, but the size of your nest egg depends on how well your investments perform. Purchasing a lifetime annuity can help to ensure that you'll receive a steady stream of income long after you leave the work force.
Lifetime Annuity Basics
An annuity is a financial contract that you enter into with an insurance company. You purchase the annuity and the insurer agrees to make future payments to you. Lifetime annuity plans give guarantees that you will receive monthly payments for as long as you live. The amount of money you'll receive depends on the amount you put into the annuity, your life expectancy, and whether you choose a fixed, variable or indexed annuity. A fixed lifetime annuity means the payments you receive are always equal. If you have a variable annuity, your payments fluctuate based on the investment options you choose. With an indexed annuity, the return on your investment is tied to a specific index, such as the Standard & Poor's 500 index.
Spousal Annuity Benefits
A joint and survivor annuity is a type of lifetime annuity that guarantees spouses regular income up until their death. You can also opt for a life annuity with a guaranteed benefit period. With this type of annuity, you'll still receive lifetime payments, but there is a limit on how long your beneficiary can receive benefits. For example, if your annuity has a 30-year benefit period and you die after 20 years, then your spouse or beneficiary would continue to receive payments for the remaining 10 years.
Taxes on Withdrawals
Payments from a lifetime annuity are generally subject to federal income tax. According to Internal Revenue Service guidelines, the part of a distribution that represents your original investment isn't taxable, but you'll still owe taxes on your earnings. Depending on when you purchased the annuity, you can use either the General Rule or the Simplified Method to figure out the tax-free part of your distribution. If you start receiving annuity payments before you turn 59 1/2, you'll also have to pay a 10-percent early withdrawal penalty on the money. The taxable part of your annuity payment is also subject to federal tax withholding unless you specifically opt out.
Pros and Cons
There are advantages and disadvantages to purchasing a lifetime annuity. An annuity may be something to consider if you want to lock in retirement benefits for your lifetime, guarantee certain death benefits for your spouse, or enjoy tax-deferred growth on your earnings. A drawback is that the performance of your investments is not guaranteed if you're purchasing a variable or index annuity. You also need to be aware of any underlying costs or fees associated with purchasing and maintaining the annuity. For example, you may have to pay a surrender charge if you decide to sell your annuity or withdraw money shortly after your purchase.
- Digital Vision./Digital Vision/Getty Images