What is an annuity?
An annuity, in it’s simplest form, is a stream of payments. It may last your lifetime, like a pension, or some other specified period. Payments may start now (an immediate annuity), or at some time in the future (a deferred annuity).
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What is an immediate annuity?
With an immediate annuity (or income annuity), you generally pay the insurer a single amount in exchange for payments that begin immediately (within 12 months). Payments must be no less frequent than annually. Payments continue for your entire lifetime, or for some other duration offered by the insurer, such as the joint lifetimes of you and another person, or a specified number of years. Depending on the option you choose, there may also be a death benefit, where payments may continue to your beneficiary for some time after you die. Immediate annuities can be either fixed, with generally unchanging payments, or variable, where payment amounts will vary based on the performance of underlying investments.
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What is a deferred annuity?
A deferred annuity is a type of personal account intended for long-term savings goals, like retirement. Unlike an immediate annuity, income payments are optional and are deferred until a future time. Deferred annuities have two phases: the savings and investment phase, where your earnings accumulate tax-deferred, and the income phase, where you can receive regular payments for your lifetime or another period. Deferred annuities typically allow withdrawals during the savings and investment (or accumulation) phase, and entering into the income phase is typically optional. Early withdrawal charges and ordinary income taxes apply at withdrawal, and tax penalties for withdrawals before age 59½ may apply (see How are withdrawals from a deferred annuity taxed?) There are two types of deferred annuity: fixed and variable.
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What is a deferred income annuity?
A deferred income annuity is a type of deferred annuity whose features are designed to help maximize your future income. It’s sometimes called “longevity insurance.” Flexibility during the accumulation phase (such as the availability of withdrawals) may be limited in exchange for guaranteed payments during the income phase.
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What is the difference between a fixed deferred annuity and a variable deferred annuity?
Fixed annuities generally offer lower risk and lower growth potential, while variable annuities can offer greater growth potential in return for increased risk.
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Fixed annuities generally offer lower risk and lower growth potential, while variable annuities can offer greater growth potential in return for increased risk. |
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Variable annuities offer more growth potential in return for a higher level of risk. Variable annuities can offer investment choice and flexibility through a variety of professionally-managed investment portfolios. These portfolios generally include stock and bond portfolios, ranging from conservative to aggressive risk levels. The value of a variable annuity will fluctuate, depending on how the investment options perform. |
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Are earnings within a deferred annuity taxed before withdrawn?
No, not until you withdraw them (except for "non-natural persons", e.g., a business).
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How are withdrawals from a deferred annuity taxed?
Your annuity’s earnings, when withdrawn, are taxed as ordinary income. Your contributions, when withdrawn, are not taxed. For taxation purposes, withdrawals are treated as coming from earnings first, then contributions. Withdrawals of earnings prior to age 59½ are generally subject to an additional 10% tax penalty. There are additional rules and exceptions; see your tax advisor for more details. More information is also available in IRS Publication 575, Pension and Annuity Income.
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How are payments from an immediate annuity taxed?
No tax is payable until you receive a payment. Generally, each payment is partly allocable to your original contribution; that part of the payment is not taxed. The rest of the payment is taxable as ordinary income. There are additional rules and exceptions; see your tax advisor for more details. More information is also available in IRS Publication 575, Pension and Annuity Income.
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Is an annuity appropriate for my IRA?
It can be. An immediate annuity can provide guaranteed income for your whole life. People often buy deferred annuities because they are tax-deferred. But since IRAs are already tax-deferred, there is no tax-related reason to use a deferred annuity for your IRA. But you may consider a deferred annuity for your IRA because of the annuity’s other features. For example, a deferred fixed annuity may offer an attractive interest rate. A deferred variable annuity might offer guarantees that ensure a minimum available withdrawal or income amount despite market downturns, or a minimum death benefit that, in the event of poor investment performance, may be much higher than the account balance. And both can be converted to income you can’t outlive.
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