Annuities

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Key Takeaways

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An annuity is a financial contract between an individual and an insurance company designed to accumulate funds and/or provide a guaranteed income stream. While life insurance protects against dying too soon, annuities protect against living too long — the risk of outliving your money.

Senior couple reviewing retirement income planning documents — Figure 1: Annuities are the primary insurance tool for converting accumulated savings into guaranteed retirement income.

How Annuities Work

In the accumulation phase, the contract owner makes contributions (a lump sum or periodic payments) that grow tax-deferred inside the annuity. In the distribution phase, the insurer makes regular payments to the annuitant — either for a fixed period or for life.

Annuitant

The person whose life expectancy is used to calculate annuity payments. Usually the owner, but not always. The annuitant's death triggers the end of life-contingent annuity payments.

Annuitization

The process of converting the accumulated value in an annuity contract into a stream of periodic income payments. Once annuitized, the decision is generally irreversible.

Types of Annuities

By Premium Payment Structure

Single Premium Immediate Annuity (SPIA) — one lump sum payment; payments begin within 12 months
Single Premium Deferred Annuity (SPDA) — one lump sum; accumulation period before payments begin
Flexible Premium Deferred Annuity (FPDA) — multiple contributions over time; payments deferred

By Growth Mechanism

Type	Growth Basis	Risk Bearer	Return Potential
Fixed Annuity	Guaranteed interest rate declared by insurer	Insurer	Lower, but guaranteed
Fixed Indexed Annuity (FIA)	Linked to market index with cap and floor	Shared	Moderate, with downside protection
Variable Annuity	Performance of chosen sub-account investments	Owner	Highest potential, highest risk

Annuity Types by Growth Mechanism

Like variable life insurance, variable annuities carry investment risk and are considered securities. Selling variable annuities requires a state insurance license PLUS a FINRA securities license (typically Series 6 or 7). Know this — it appears on virtually every Life & Health licensing exam.

Annuity Distribution Options (Settlement Options)

Life only (straight life) — payments for the life of the annuitant; highest payment amount; nothing to heirs at death
Life with period certain — payments for life; if annuitant dies before period ends, payments continue to beneficiary
Joint and survivor — payments continue as long as either of two annuitants is alive (reduced amount after first death)
Fixed period — payments for a fixed number of years; beneficiary receives remaining payments if annuitant dies early
Fixed amount — fixed dollar payment until account is exhausted; timing depends on account value

Life only pays the MOST per period but provides NOTHING to heirs if the annuitant dies early. Life with period certain pays LESS per period but guarantees payments continue to a beneficiary for the remainder of the guaranteed period. Know which option gives the highest and lowest payments.

Key Takeaways

Annuities protect against longevity risk — outliving your money — the opposite of life insurance
Accumulation phase: tax-deferred growth; distribution phase: periodic income payments
Fixed: guaranteed return; Fixed Indexed: index-linked with floor; Variable: investment sub-accounts (needs securities license)
Life only = highest payment, no residual; Life with period certain = lower payment but beneficiary protection
Variable annuities require both an insurance license and a FINRA securities license to sell