Immediate Annuities

Shawn Plummer, CRPC

Chartered Retirement Planning Counselor

What Is An Immediate Annuity?

An immediate annuity is a financial product you purchase with a single lump-sum payment. In return, you receive guaranteed income payments for a specified period or for the rest of your life. Think of it as a reverse life insurance: instead of paying regular premiums to get a future lump sum, you pay a lump sum upfront to get regular income.

Helpful Tool: Immediate Annuity Calculator

Key Takeaways

  • Contracts can be irrevocable, meaning there is zero flexibility once started.
  • Part of the income can be tax-free if the annuity is funded with already taxed money.
  • There are various payout options, and your guaranteed income starts within the first year.
  • Options to create income for one or two people, for a specific period or for life.
  • You receive a fixed, guaranteed amount, helping with budgeting living expenses.
  • Some products offer cost-of-living adjustments to counter inflation and liquidity features for financial emergencies, though these may cost extra.
  • Some immediate annuities offer a cost-of-living adjustment (COLA) feature, which can automatically increase your annual payment amount to help offset inflation.
  • Immediate annuities might not be suitable if you have sufficient income, need continuous access to cash, or have minimal retirement savings.
Immediate Annuity

How Does an Immediate Annuity Work?

Let’s break it down with an example. Imagine you’ve just retired and have a substantial amount saved up. You decide to purchase an immediate annuity worth $200,000. In return, the insurance company promises to pay you a fixed monthly amount for the rest of your life.

The amount you receive monthly depends on several factors:

  • The Amount Invested: The larger the lump sum, the higher the monthly payouts.
  • Your Age: Younger annuitants might receive smaller monthly amounts since the payouts are expected to last longer.
  • Interest Rates: Higher interest rates generally lead to higher payouts.
  • Payout Option Chosen: You can opt for life-only payouts or include a beneficiary to receive payments after your demise.

Related Reading: Best Immediate Annuity Companies

Immediate Annuities

Why Choose an Immediate Annuity?

The primary allure of immediate annuities is the promise of guaranteed income. Having a fixed income can provide peace of mind in a world of financial uncertainties. Here are some reasons why people opt for them:

  • Security in Retirement: It ensures a steady income stream, supplementing other retirement benefits. You get a steady income for life, so you won’t outlive your money.
  • Protection Against Longevity Risk: Outliving your savings is a genuine concern. Immediate annuities mitigate this risk.
  • Simplicity: They’re simple to understand and use. Once set up, no active management is required. You receive your payouts, and that’s it.
  • Personalization: You can set it up to match your needs, like adjusting for inflation or leaving money for family. Your payments don’t change with market ups and downs.

Helpful Tip: Best current annuity rates

Immediate Annuity Calculator

Who Should Consider an Immediate Annuity?

Immediate annuities aren’t a one-size-fits-all solution. They’re best suited for:

  • Those Seeking Guaranteed Income: If you want a predictable income stream in retirement, this is for you.
  • Risk-Averse Individuals: If the thought of market downturns keeps you up at night, the stability of an immediate annuity might appeal to you.
  • People Without Heirs: Since some immediate annuities don’t return the principal to beneficiaries, those without heirs might find them more attractive.
Fixed Immediate Annuity

Pros And Cons Of Immediate Annuities

ProsCons
Guaranteed Income StreamIrreversible Decision
You receive a steady, predictable income for a specified period or for life, alleviating the worry of outliving your savings.Once purchased, an immediate annuity often cannot be altered or cashed out. It’s a binding agreement, so you must be sure it’s the right choice.
Inflation Protection OptionsInflation Impact
Some immediate annuities offer options for inflation-adjusted payments, helping maintain your purchasing power over time.Without inflation protection, fixed annuity payments could lose value over time as the cost of living increases.
No Investment WorriesOpportunity Cost
After purchasing an immediate annuity, the insurance company takes on the investment risk. Your payments remain consistent regardless of market fluctuations.The lump sum paid for an annuity could potentially generate a higher return if invested elsewhere, depending on market conditions.
Tax AdvantagesLimited Legacy
Part of the income payment might be tax-exempt, as it is considered a return of principal. This aspect depends on the annuity structure and personal circumstances.For annuities without a death benefit, any remaining balance will not pass to heirs. This factor can limit the financial legacy you leave behind.
Customizable Payout OptionsFees and Charges
You can often customize your annuity to include beneficiaries, ensuring that your loved ones are provided for after your passing.Some annuities come with fees and administrative charges that can eat into the money you’ve invested, potentially reducing your overall return.
Longevity Risk MitigationInterest Rate Sensitivity
Immediate annuities provide a solution for the risk of outliving your savings by guaranteeing income for life.The initial payout rate is partly determined by current interest rates. Buying during a period of low rates might result in lower income.
What Is An Immediate Annuity?

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When Should You Buy an Immediate Annuity?

Timing is crucial. Consider purchasing an immediate annuity:

  • At Retirement: This is the most common time, as it ensures a steady income right when you need it.
  • When Interest Rates are High: Higher interest rates can lead to better payouts.
  • After a Financial Windfall: If you suddenly come into money, an immediate annuity can help manage and provide a steady income from that sum.
Immediate Annuity Payouts

Conclusion

Immediate annuities offer a unique proposition in the financial landscape: guaranteed income in exchange for a lump sum. They provide stability, peace of mind, and a hedge against outliving your savings. However, like all financial decisions, they should be made after careful consideration of your circumstances and goals.

With the knowledge you’ve gained from this guide, you can now make an informed decision about immediate annuities. Remember, financial planning is all about ensuring a secure and comfortable future. Choose wisely, and your future self will thank you. Contact us for a quote today.

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Questions From Our Readers

What is an example of an immediate annuity?

The lottery is one example of an immediate annuity contract. When someone wins the lottery, they usually receive their winnings as a lump-sum payment. However, if they choose to receive their winnings as anniversaries, they will get regular payments over time instead of one lump sum.

What are the disadvantages of an immediate annuity?

There are a few disadvantages to immediate annuities. First, they are not very flexible. Once you purchase an immediate annuity, you are locked into the payment schedule. You cannot make changes to the payments, and if you need access to the money before the end of the payout period, you will likely have to pay the penalty. Second, immediate annuities are not very liquid. If you need to cash out your annuity early, you will likely have to pay a surrender fee.

Do Immediate annuities have fees?

Immediate annuities do not have fees but lower payment amounts for the annuitant if a benefit or rider is added to the contract.

How can I get out of an immediate annuity?

There are a few ways to get out of an income annuity, but it typically requires giving up some of the payments you would have received. One way to get out of an immediate annuity is to sell it in the secondary market. This can be done through a life settlement broker, who will find a buyer for your annuity and help facilitate the transfer.

Do immediate annuities earn interest?

Immediate annuities earn little to no interest because the income payments begin immediately after the annuity is purchased. If you want your money to grow, you may want to consider a deferred annuity instead. With a deferred annuity, your money is invested and grows tax-deferred until you start taking income payments, which can be at any point in the future.

Are immediate annuities worth it?

Immediate annuities can be a great way to secure a stream of income in retirement, but they are not suitable for everyone. When deciding whether an immediate annuity is right for you, you must consider your unique circumstances and financial needs.

What is the best age to buy an immediate annuity?

There is no one-size-fits-all answer to this question, as the best age to buy an immediate annuity will depend on your circumstances and financial needs. However, some experts recommend waiting until 60 before purchasing an immediate annuity.

Are immediate annuities taxable?

Immediate annuities are generally taxable as ordinary income per the IRS.

Is an immediate annuity a good idea?

Immediate annuities can be a great way to secure a stream of income in retirement, but they are not suitable for everyone. When deciding whether an immediate annuity is right for you, you must consider your unique circumstances and financial needs.

What is an immediate variable annuity contract?

An immediate variable annuity is an insurance contract in which the annuity payments begin immediately after the annuity is purchased. The annuity’s payout rate is based on the performance of underlying investments, which may include stocks, bonds, and mutual funds. Because the payout rate can fluctuate, immediate variable annuities have a higher risk than fixed annuities. However, they can also offer higher potential returns. Therefore, immediate variable annuities can attract investors willing to take on more risk.

What is considered to be a characteristic of an immediate annuity?

A key characteristic of an immediate annuity is its ability to provide a guaranteed, immediate, and regular income stream, typically starting within a year of the initial lump-sum investment.

What is the main difference between immediate and deferred annuities?

The main difference between immediate and deferred annuities lies in the payout timing. With immediate annuities, payouts begin soon after the initial investment, typically within a year. Conversely, deferred annuities accumulate earnings for a set period before initiating payouts, which could be several years, providing potential for growth during the deferral period.

Is there a risk with an immediate annuity?

Yes, there are risks associated with immediate annuities. These include inflation risk, as fixed payments might lose purchasing power over time, and liquidity risk, as funds invested are not easily accessible for unexpected expenses. Additionally, there’s the risk of the insurance company’s insolvency.

Why would someone buy an immediate annuity?

Someone might buy an immediate annuity to secure a steady, guaranteed income stream, especially during retirement. This financial tool offers predictability and can help mitigate the risk of outliving one’s savings, providing peace of mind for individuals prioritizing financial stability.

What are the benefits of an immediate annuity for retirees over age 80?

Immediate annuities for retirees over age 80 offer guaranteed lifetime income, potentially higher payout rates due to shorter life expectancy, and relief from investment management decisions. They provide financial stability, reducing the risk of outliving savings.

What are immediate pay annuities?

Immediate annuities are essentially contracts between an investor and an insurance company. The investor provides a lump-sum payment (also known as a premium), and in return, the insurance company agrees to provide regular payments back to the investor. These payments are a blend of return of principal and interest earnings, thus providing a steady income stream for the annuitant.

At what age can I buy an immediate annuity?

You can buy an immediate annuity at any age, but it’s typically purchased at or near retirement age, between 60 and 70 years old.

How long do you have an annuity before you start getting monthly payments?

With an immediate annuity, payments can start within 30 days to one year of purchase, often within a month. With deferred annuities, payments start at a future date, often years later, as specified in the contract.

How long is the accumulation period for immediate annuities

Unlike deferred annuities, which have a longer accumulation phase, immediate annuities are designed to begin payouts almost immediately after a lump sum is paid. The accumulation period for immediate annuities is typically short – often ranging from 30 days to 365 days.

Could you please explain the interest rate on an immediate annuity? Is it the rate at which my money will grow or the rate at which I will get paid?

The interest rate on an immediate annuity doesn’t represent the growth rate of your money but rather factors into the amount you get paid. When you purchase an immediate annuity, you pay a lump sum to an insurance company, and in return, you receive regular payments. The interest rate is used to calculate these payments, considering your principal amount, your age, and the payment period. It helps determine how much income you’ll receive, but your principal doesn’t grow like it would in a savings or investment account.

What is the minimum time frame in years for purchasing an immediate annuity?

Typically, the minimum time frame for an immediate annuity is around 5 years.

Will both the 72(t) and immediate annuity avoid the 10% early withdrawal penalty on your IRA?

You’re correct that a 72(t) distribution avoids this penalty by allowing early withdrawals under specific, consistent amounts and schedules. For a SPIA, generally, it would not avoid the penalty if funded by an IRA and you’re under 59½. However, if you structure the SPIA to distribute exact amounts as defined under the 72(t) schedule and comply with all 72(t) rules, it should also avoid the penalty. It’s crucial to adhere precisely to these rules to avoid penalties.

Shawn Plummer, CRPC

Chartered Retirement Planning Counselor

Shawn Plummer is a Chartered Retirement Planning Counselor, insurance agent, and annuity broker with over 14 years of first-hand experience with annuities and insurance. Since beginning his journey in 2009, he has been pivotal in selling and educating about annuities and insurance products. Still, he has also played an instrumental role in training financial advisors for a prestigious Fortune Global 500 insurance company, Allianz. His insights and expertise have made him a sought-after voice in the industry, leading to features in renowned publications such as Time Magazine, Bloomberg, Entrepreneur, Yahoo! Finance, MSN, SmartAsset, The Simple Dollar, U.S. News and World Report, Women’s Health Magazine, and many more. Shawn’s driving ambition? To simplify retirement planning, he ensures his clients understand their choices and secure the best insurance coverage at unbeatable rates.

The Annuity Expert is an independent online insurance agency servicing consumers across the United States. The goal is to help you take the guesswork out of retirement planning and find the best insurance coverage at the cheapest rates

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