A fixed annuity stabilizes investment income and is most preferred by investors who aren’t working full time but have retired or are about to retire. It is an insurance contract which provides a fixed amount of income paid regularly for a specific period. A fixed annuity can have various options which can be added to a basic annuity for a fee.
A financial institution or insurance company offers fixed annuities which can either be availed by an annuitant by paying a lump sum or at regular intervals until the annuitant retires. The annuitant’s contributions are guaranteed to earn interest at a fixed rate during the accumulation phase. During the annuitization phase, the contributions less the payouts will continue to earn interest. If the annuitant dies before he can claim his annuity’s full amount, he passes the remainder of his money to the insurance company. However, he can opt to choose a beneficiary, depending on the type of annuity he selects.
When choosing a fixed annuity, it is important for the investor to know that he can negotiate the price of the annuity. In addition, the payouts can also differ between insurance companies. As such, it is best to compare various annuity products before selecting one.
Kinds Of Fixed Annuities
Fixed annuities can be term certain annuities and life annuities. A life annuity pays a fixed amount every period until the annuitant dies while the term certain annuity pays a fixed amount periodically until the annuity expires.
Life annuities have different types and differ by the type of insurance they provide the investor. Some life annuities change the payout structure in case something happens to the annuitant like early death or sickness. In most cases, if there are many insurance components, payouts can be longer over time once the annuity starts the annuitization process. In addition, the monthly payouts are highly dependent on the annuitant’s life expectancy. If the annuitant has a low life expectancy, he receives higher payouts. The price of a life annuity is the total amount of contributions in the annuity plus any premiums paid for the insurance components, if any.
A straight life annuity, on the other hand, has an insurance component which provides income until the annuitant dies. At the start of the annuitization process, it pays out a fixed amount periodically until the annuitant’s death. This type of life annuitant is cheaper because there is no other insurance component attached to it. A straight life annuity doesn’t pay anything to any beneficiary.
A substandard health annuity is a kind of straight life annuity which can be bought by a person with a serious illness. It is priced depending on the probability that the annuitant will die in the near future. If the annuitant has a lower life expensive, he will have to pay more for the annuity. Furthermore, he also receives lower payouts but the duration of payouts is increased.
A guaranteed term life annuity allows an annuitant to choose a beneficiary, who will receive the remaining benefits if the annuitant dies before the end of the agreed term. It is more expensive than the straight life annuity. In addition, the beneficiary receives a lump sum amount from the insurer when the annuitant dies. In this case, the beneficiary will have to pay income tax on the benefits he receives.
A joint life with last survivor annuity is an annuity which pays the annuitant’s spouse even when he dies. The remaining payments are passed on to the spouse. This annuity allows the annuitant to add more beneficiaries who will receive the payments when the spouse dies. The annuitant may even designate smaller payments to these additional beneficiaries. Because the payouts are distributed periodically, the spouse need not be burdened by huge tax payments. However, a joint life with last survivor is more expensive than the other fixed annuities because there are more insurance components.
Term certain annuities provides for a fixed payout periodically up to a particular date only. The insurance company doesn’t distribute the remaining payments to the annuitant’s beneficiaries in case of death. Because it has no additional insurance components, this type of annuity is cheaper. Moreover, this annuity doesn’t increase the income in case the annuitant’s health fails.
Capital gains in fixed annuities are tax deferred. Money is used in purchasing fixed annuities can be considered pre-tax income and be tax deferred. Fixed annuities can also be bought with after-tax money. Payouts can either be pre-tax or after-tax income, depending on the kind of annuity purchased. If the annuity is bought using pre-tax income, it can qualify for tax-deferral. This type of annuity is bought by retirement funds which have tax-exempt capital gains and the retirement plan from which the funds came from was qualified for tax-deferred status.
Annuities can also be purchased on intervals when the annuitant is still working. Contributions to these annuities are pre-tax income. An annuity which has been bought by after-tax money doesn’t enjoy tax-deferred status. A qualified annuity has tax-free capital gains and is only taxed when money is withdrawn from the fun. Capital gains on an unqualified annuity are tax-deferred and contributions are already after-tax. In both qualified and unqualified annuities, the annuitant’s beneficiary pays a hefty tax on the annuity income when the annuitant dies.
The annuitant must be wary about the effects of annuities on his beneficiaries. He is encouraged to seek the help of a financial advisor when he plans his estate. He can also make his own research so that his beneficiaries don’t have to be burdened by hefty taxes when he passes away.