Annuities can be structured according to a wide array of details and factors, such as the duration of time that payments from the annuity can be guaranteed to continue. Annuities can be created so that, upon annuitization, payments will continue so long as either the annuitant or their spouse is alive. Alternatively, annuities can be structured to pay out funds for a fixed amount of time, such as 20 years, regardless of how long the annuitant lives.
Annuities can be structured to provide fixed periodic payments to the annuitant or variable payments. The intent of variable annuities is to allow the annuitant to receive greater payments if investments of the annuity fund do well and smaller payments if its investments do poorly. This provides for a less stable cash flow than a fixed annuity, but allows the annuitant to reap the benefits of strong returns from their fund’s investments.
Annuities were designed to be a reliable means of securing a steady cash flow for an individual during their retirement years and to alleviate fears of longevity risk, or outliving one’s assets.
Annuities can also be created to turn a substantial lump sum into a steady cash flow, such as for winners of large cash settlements from a lawsuit or from winning the lottery.
Defined benefit pensions and Social Security are two examples of lifetime guaranteed annuities that pay retirees a steady cash flow until they pass.
Types of Annuities
Annuities can be structured according to a wide array of details and factors, such as the duration of time that payments from the annuity can be guaranteed to continue. Annuities can be created so that, upon annuitization, payments will continue so long as either the annuitant or their spouse (if survivorship benefit is elected) is alive. Alternatively, annuities can be structured to pay out funds for a fixed amount of time, such as 20 years, regardless of how long the annuitant lives. Furthermore, annuities can begin immediately upon deposit of a lump sum, or they can be structured as deferred benefits.
Annuities can be structured generally as either fixed or variable. Fixed annuities provide regular payments to the annuitant. Variable annuities allow the owner to receive greater future cash flows if investments of the annuity fund do well and smaller payments if its investments do poorly. This tends to provide for a less stable cash flow than a fixed annuity, but it allows the annuitant to reap the benefits of strong returns from their fund’s investments.
One criticism of annuities is that they are illiquid. Deposits into annuity contracts are typically locked up for a period of time, known as the surrender period, where the annuitant would incur a penalty if all or part of that money were touched. These surrender periods can last anywhere from 2 to more than 10 years, depending on the particular product. Surrender fees can start out at 10% or more and the penalty typically declines annually over the surrender period.
While variable annuities carry some market risk and the potential to lose principal, riders and features can be added to annuity contracts (usually for some extra cost) which allow them to function as hybrid fixed-variable annuities. Contract owners can benefit from upside portfolio potential while enjoying the protection of a guaranteed lifetime minimum withdrawal benefit if the portfolio drops in value. Other riders may be purchased to add a death benefit to the contract or accelerate payouts if the annuity holder is diagnosed with a terminal illness. Cost of living riders are common to adjust the annual base cash flows for inflation based on changes in the CPI.
The different ways in which annuities can be structured provide individuals seeking annuities the flexibility to construct an annuity contract that will best meet their needs.
Contact Novello & Associates for all your annuity needs.