The secret to feeling good about your retirement is being certain you'll have money for as long as you live. An annuity is a tax-deferred tool that can guarantee you an income even if you live to be 100. It's a great way to help fill the gap between what you currently have coming to you - through pensions, Social Security, savings - and what you'll actually need to live.
An annuity is a contract between you and an insurance company. The insurance company invests your money for you, and, depending on your annuity, you may receive a regular payment based on the success of the investments. Income on annuities is not taxed until withdrawn from the contract, making annuities a tool to save for retirement.
The two main types of annuities are fixed and variable.
A fixed annuity provides a guaranteed interest rate* for a fixed period of time. Here's how it works: You give a check to an insurance company, and they invest it. The interest rate you are paid will be periodically adjusted up or down, but it will never go below the guaranteed rate. As a result, you will always receive a guaranteed minimum level of return.
A variable annuity is a contract with an insurance company where you give them either a lump sum or series of payments—and they return your money, usually after retirement, with a steady stream of payments. In the meantime, your money is invested and is free to grow, tax deferred, until you take the money out. Variable annuities provide more options for investing your money, so potential returns are higher than fixed annuities, but the risk is also greater.
Within the categories of fixed or variable annuities, other options are available:
An immediate annuity allows you to begin receiving payments within one month or up to 12 months from your annuity purchase date, depending on when you want to start this income stream. When purchasing an immediate annuity, you can tailor it to fit your personal needs, which includes choosing a payment option and frequency of the payments (monthly, quarterly, semi-annually or annually).
An indexed annuity earns interest on the potential upward movement of an equity index and feature a minimum interest rate. This rate serves as a "safety valve" by providing growth even when the market performs poorly. These annuities are a popular option for people who want some of the growth potential of a variable annuity, but with less risk. Earnings are linked, in part, to a specific stock index such as the Standard & Poor's 500™ Composite Stock Index.
A market value - adjusted annuity spreads your premiums over different contract periods. The total value when you withdraw cash is linked to interest rates. If rates fall, your value could be higher. If rates rise, expect the opposite. These annuities have a greater potential to provide higher interest rates than the traditional fixed annuity.