Immediate Annuity

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21 Aug, 2024

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An immediate annuity, or income annuity, is an investment product offered by insurance companies that provides a guaranteed stream of income payments beginning immediately or within a short period. They provide a steady stream of income in retirement or for long-term financial goals.

Companies provide various income annuity schemes from which individuals can choose based on their requirements. Such contracts are available from banks, financial institutions, insurance companies, and other brokerage firms. The most challenging task is deciding on the best annuity product to meet your secure income needs. Once an investor purchases these annuities, they cannot cancel them for a refund.

What Is An Immediate Annuity?

Immediate annuity refers to a retirement scheme allowing buyers to invest a lump sum premium at once and enjoy monthly payouts for the rest of their lives.
Payouts start instantly after signing the contract in an income annuity, and payouts begin on a future date in a deferred annuity.
These grants often come in different types - fixed, variable, index, single premium, flexible premium, and qualified and nonqualified annuities.
Individuals consider it one of the safest retirement plans, although it provides lower returns depending on the market conditions.

How Does An Immediate Annuity Work?

An immediate annuity is a retirement income contract offered by banks, insurance companies, and other financial agencies as a product that allows people to plan their retirement income. It works by paying a lump sum as a premium and, in return, starts receiving monthly payouts as a form of returns or pension. These annuity rates are lower as it starts instant payouts from when an individual subscribes to them.

The amount of immediate annuity payments depends on factors like the investor's age, gender, and life expectancy, as well as the amount of lump sum investment and the annuity contract terms. However, the payments offered may be fixed, indexed, and variable.

A fixed immediate annuity provides guaranteed fixed income, while an index annuity tracks market index performance to determine returns. In contrast, the investment performance derives the returns in the variable income annuity. Typically buyers do it as it makes more sense for retirement, but a buyer can make a small payment as a premium. Instead, they may choose flexible payment options with a series of charges and receive a hefty amount from the annuity provider.

An individual can use an immediate annuity calculator to assess which type of plan will suit them best. Therefore, the results from these calculators are estimates only and are subject to changes. Hence, a few annuities offer cost of living adjustment options so that a buyer can protect themselves from inflation. In addition, liquidity features are available to allow withdrawals at times of financial emergency.

Therefore, while considering an immediate annuity plan, an individual should evaluate their financial situations and retirement goals to determine whether it is a suitable investment product for them.

Examples

Let us explain the concept with the help of an example.

Example #1

Lucius is 59 years old and about to retire in four months; he sums up and buys all the money he has ever saved, accumulated, and earned in his lifetime through 401K and IRA, his savings account, and other funds, to buy an immediate annuity. Lucius invests with a single lump sum premium of $900,000. After signing the contract, he receives monthly payouts of $2700 for a fixed time.

The payout amount in such annuities depends on the prevailing market conditions and devised interest rate calculation. Lucius is happy with his payment and is ready to retire.

Example #2

Limra, a US-based company, had the highest annuity sales in 2022. In terms of pending annuity contracts in January 2023, the company has increased by 80% over the earlier year. In a press release, Limra's assistant vice president Todd Giesing stated that the company anticipates a record-breaking first quarter in 2023. According to company records, fixed-indexed annuity sales reached an all-time high of $79.8 billion in 2022, 25% more than in 2021 and 9% more than in 2019.

Furthermore, the company's income annuity sales increased from 44% in 2022 to approximately $9.2 billion in 2023. The longevity annuity revenues had been around $2 billion in 2022, a 13% increase over the previous year.

Given the current economic conditions and a competitive market, the company anticipates that annuity sales will improve significantly in the coming years.

Pros And Cons

Pros

Provides stability during retirement by offering a guaranteed stream of income.
The immediate annuity plan is valid regardless of how long both covered persons live.
Unlike other investments, these annuities are not subject to market fluctuations.
It helps simplify the investment process and makes it easier to manage finances.
The contract comes with a tax benefit where the purchaser will only be taxed on the withdrawn yearly income.

Cons

It demands a considerable amount of money for initial investment.
When individuals invest in an income annuity, they typically give up access to the principal investment.
If a retiring person wants to leave something for their legal heir, choosing an immediate annuity is not convenient.
Income payouts from these annuity payments may not keep up with inflation, resulting in a loss of purchasing power over time.

Immediate Annuity vs Deferred Annuity

The immediate annuity starts payout immediately after signing the contract. In contrast, deferred annuity payments begin on a set future date decided by the purchaser.
It is suitable for people retiring immediately, but a deferred annuity is ideal for people who still have a few years to retire and want to plan.
A fixed immediate annuity doesn't allow partial withdrawals before the payout. Still, when it comes to a deferred annuity, in some cases, buyers can make a withdrawal before the payout starts.
Because of how it is accumulated and distributed, income annuities offer lower returns than deferred annuities.

Frequently Asked Questions (FAQs)

What does an immediate annuity consist of?

This annuity consists of the regular income stream that a buyer had enabled when they bought the annuity contract as an investment making a heavy premium at once. It is a retirement plan similar to 401(K) and IRA accounts.

Are immediate annuity payments taxable?

These are taxable to a specific limit. Therefore, the annuities' taxes depend on various factors, including the type of annuity, the original investment, and the selected payout options. For example, if the grant is purchased with pre-tax dollars, the entire amount of each payment received is subjected to income tax. On the other hand, if the annuity is bought with after-tax dollars, then only a portion of each payment is subjected to income tax.

Can you cash out an immediate annuity?

In significant cases, it is not possible to cash out these annuities once it has been purchased. Once the investor has started receiving income payments, they cannot cancel the grant or receive a lump-sum compensation of the remaining annuity value.