An annuity can be a good investment for retirement, but choosing the right type involves a lot of decisions. You can choose either a fixed annuity, with a guaranteed rate of return, or a variable, whose earnings depend on the success of investments. You can take payments immediately or defer them to some future time, and with some annuities you can pick a term over which to take payments.
Fixed or Variable
The two basic types of annuity are fixed and variable. A fixed annuity provides a guaranteed rate of interest for the annuity term, which can be for a lifetime or for a set number of years. A variable annuity rate of return depends on the performance of investments, like mutual funds, which will affect payouts. An indexed annuity is a variable based on performance of an index like the Standard & Poor's 500-stock Index.
An annuity can be set up with an insurance company with a single premium or a flexible premium. A single premium annuity uses a lump sum, like a distribution from a retirement account, to buy either a fixed or variable annuity. This is a starting point for the annuity to be invested for growth. A flexible premium is funded with periodic contributions, either on a regular basis or whenever the investor wishes.
Deferred or Immediate
Payments from an annuity can be immediate or deferred. Immediate annuity payments begin usually within a month after the annuity is bought. Payments then will continue for lifetime or a specified number of years, depending on the annuity. A deferred annuity accumulates earnings tax-free until the annuity holder begins to receive payments at some future time, usually at retirement.
Lifetime or Beyond
A lifetime annuity typically ends with the death of the holder, whether the entire original sum has been paid out or not. Payments from a fixed-term annuity will continue until the end of the period, whether the annuity holder has died or not. If the holder dies, payments will go to beneficiaries until the end of the term.
A combination annuity combines the benefits of immediate and deferred annuities. Part of a lump sum payment is put into a deferred fixed annuity with a guaranteed interest rate over a specified period. The rest of the money goes to an immediate annuity that pays income for the same time as the deferred portion, giving the holder both regular income and a fixed amount with earnings growth.
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