IMMEDIATE ANNUITY:  A Consumer Guide

The most comprehensive website about the Immediate Annuity, also known as a life annuity, an income annuity or Single Premium Immediate Annuity, often abbreviated as SPIA. Providing unbiased information in plain, easy to understand language about all aspects of the Immediate Annuity, a product that provides you with regular income payments for life. This site focuses on the numerous factors that should be considered and questions that people have when considering a purchase of a life annuity.

 

What is a Immediate Annuity?

An Immediate Income Annuity, or Life Annuity, or Single Premium Immediate Annuity (SPIA), is an insurance product that pays you a regular income (monthly, quarterly, etc.) for as long as you live.  You pay an insurance company a lump sum of money (the premium amount) and as soon as one month later you can begin receiving your payments.  These payments to you will continue for your entire lifetime no matter how long you live.  For example, if you make a $50,000 premium payment to the insurance company they will pay you $500 a month for the rest of your life.  For a few more specific examples on the lifetime income provided by an immediate annuity visit our annuity examples page.

 

 

How are Immediate Annuities structured and what do the terms "Life Only", "Period Certain", and "Certain and Life" mean?

There are three basic ways to structure an immediate annuity: (1) Life Only, (2) Period Certain, and (3) Life with Period Certain.  A "Life Only" immediate annuity or sometimes referred to as "Straight Life" means you receive annuity payments the rest of your life and these payments cease upon your death.  A "Period Certain" annuity is only for a fixed number of payments or years.  If you have a 10 year certain immediate annuity you (or your beneficiary if you die) are guaranteed to receive payments for a total of 10 years.  The payments stop after 10 years even if you are alive.  Finally, a "Certain and Life" or "Life with Period Certain" annuity is a combination of the previous two structures.  A 5 year certain and life annuity pays you a fixed amount the rest of your life, but should you die in the first five years your beneficiary will receive payments as if you had been alive for those first five years.

 

Please note that if you purchase just a period certain annuity you only will receive income payments for a limited time.  If you want to be sure and provide a stream of income you cannot outlive you must purchase a life only or certain and life annuity.

 

 

What are some of the features offered in Immediate Income Annuities?

A traditional immediate income annuity offers a fixed periodic payment in exchange for an initial premium with no future access to your initial premium.  There have been a number of modifications to the original immediate annuity design that companies have implemented.  Some of these features, which are not available from all companies, are listed below:

(1)  Inflation protection option - annuity payments are protected from inflation.  You can choose to have your annuity payments increase a certain percentage each year, typically around 3%.  Another option is to have your annuity payments tied to an actual inflation rate by the use of an index.  Typically, these annuity payments change based on a formula tied to the Consumer Price Index (CPI).  If you select an inflation protection option, your annuity payments will initially be lower than if you did not select an inflation option, however as inflation occurs over the years your payments will gradually rise and could become greater than an annuity without inflation protection.

(2) Refund/Liquidity/Withdrawal options - The traditional refund feature has been either a cash refund or installment refund which ensures after your death that your beneficiary receives an amount of money representing the difference between your initial premium and the amount of payments you received during your life.  In other words, you and your beneficiary combined are guaranteed to get all your money back.  New options include being able to access a certain portion of your initial premium while you are alive if you are confined to a nursing home, have a critical or terminal illness, or even for no reason at all.  Keep in mind these options all have a cost associated with them and if you have no desire for these additional features there is no need to pay for them since they will lower your annuity payment.

(3) Variable payments - variable immediate annuities allow you to direct your initial premium among various investment options (i.e. mutual funds) and depending on the investment performance of these funds your periodic annuity payment will go up or down.


  

 

How long should I expect to live and receive my annuity payments?

There are a variety of reports, studies, and tables showing life expectancy.  Insurance companies use these tables to determine how long they expect you to live and calculate the cost of the income annuity accordingly.  The National Center for Health Statistics publishes studies on the current life expectancy in the United States.

 

 

How is an immediate annuity like life insurance?

An immediate annuity can be looked at as the opposite of life insurance.  Life insurance-which should more properly be called death insurance-provides a cash payment to your beneficiary upon your death, where an annuity provides a cash benefit to you while you are living and as for as long as you live.  So in simple terms, annuities protect your income while you are alive and life insurance protects your income when you are dead.

 

 

What are the other types of annuities available and how do they differ from an Immediate Annuity?

In addition to immediate annuities, there are deferred annuities.  Deferred annuities are also sold by insurance companies, but they are primarily used to accumulate funds on a tax-deferred basis to be withdrawn at retirement or to pay for an immediate annuity in the future.  Deferred annuities, by definition, do not make periodic income payments.

 

 

How does an immediate income annuity compare to other investments, like CDs, mutual funds, or a savings account?

A traditional fixed immediate annuity is similar to a CD in that you put in a fixed amount of money and receive back a fixed return or payment.  A CD and an annuity differ, however, since a CD is established for a limited amount of time and the payment you receive is interest earned off your principal and you receive your entire principal back at the end of the fixed period.  With an annuity, your payment is made up of both a principal amount (your premium) and the interest earned, but is guaranteed to last the remainder of your life.  If you live longer than expected you will receive more money back than you initially paid to the insurance company and more than the interest they earned on your funds.  If you live shorter than expected you will receive less than you initially paid to the company.

 

With a mutual fund you receive a periodic return (which could be negative) that fluctuates depending on the investments within the fund.  You can request regular payments from your mutual fund be sent to you, but those payments will only last as long as there is money in your mutual fund account, which could be less than you initially put in depending on the performance of the mutual fund.  With an immediate annuity your payment is fixed and you will receive the same amount of money each year for your entire life no matter how long you live.

 

With a savings account you receive an interest payment on a regular basis depending upon how much money you have in your account and you can withdraw the amount in your account at any time.  An annuity provides you with a regular payment based on your life expectancy and your initial premium.  Unless you have selected an extra-cost withdrawal option, you cannot access your initial premium after your annuity payments begin.

 

 

What are the Benefits and Advantages of an Immediate Annuity?

The main benefit of an immediate income annuity is that you will never outlive your money.  With a savings account or mutual fund you can withdraw a certain amount each month, but at some point that money in your account is gone.  With an annuity, you put in a set amount of money to begin with and the annuity pays you on a regular schedule forever.  If you put $50,000 into your annuity and the insurance company agrees to pay you $500 a month, that $500 will be paid each month as long as you live.  If you put $50,000 into a savings account and (ignoring interest) withdrew $500 a month your money would run out in about 8 years.

 

Another benefit is that you don't have to worry about how the stock market did yesterday or how smart (or lucky) your broker or investment professional is.  You give your money to the insurance company in exchange for a promise of a fixed payment.  It is the insurance company's responsibility to make the proper investments and if they invest your money in something that does poorly they have to come up with the money they promised you from another source (i.e. their profits)

 

 

What are the Risks or Drawbacks of a SPIA?

The primary risk is that the insurance company you are purchasing the annuity from will go out of business.  That is why it is important to buy an annuity from a high-quality, financially sound company.  However, even if your annuity company did fail, there is an organization, similar to the FDIC for banks, that makes annuity payments, subject to limits, in the case of failures. 

 

Another consideration, although not truly a risk of immediate annuities, is the fundamental nature of insurance.  If you buy an annuity for $50,000 and die in 6 months, the insurance company will keep a very large portion of the $50,000 since you would have only received a very small number of payments.  There is nothing inherently wrong with this since the basis of  insurance is that everyone pays into a pool and some people live a long time and get back more than they put in and others live a short time and put in more than they get back.  The same is true in life insurance where some people live a short time and their beneficiary gets a large life insurance check where others pay premiums for years only to get a benefit after they have paid in much more than they receive.  This factor should be a consideration since if you are in very poor health with a very limited life expectancy, then a purchase of a life only immediate annuity is probably not the best use of your funds.  Alternatively, you might consider a life annuity with period certain or one of the refund options that might be available.

  

 

Why should I buy an Immediate Income Annuity?

(1)   You have a certain portion of your assets in low yielding savings accounts or CDs that you will not need to access in the future

(2)   You want to be sure that you have a guaranteed amount of income each year that you cannot outlive

(3)   You want a reliable source of income without having to worry about the stock market

(4)   If you have qualified funds in an IRA or 401(k) that you want to convert to a regular income.  The annuity payments will automatically satisfy your Minimum Required Distribution

 

 

Why should I NOT buy an Immediate Income Annuity?

(1)   If you have an extremely low life expectancy

(2)   If you have a very limited amount of total assets and no emergency fund that can be accessed immediately in the future

(3)   If you have not tried to get an annuity quote from a number of companies before making a decision

(4)   If you want to leave the money you are investing in the annuity to your survivors

  

 

How much do immediate annuities cost?

The cost of an immediate annuity is the initial premium, there are no ongoing monthly or yearly fees once the initial premium is paid.  Like any product, the cost of immediate annuities vary from company to company.  The primary factor that determines the cost is a person's age and sex.  Since an older person is expected to have a shorter future lifetime than a younger person, the older person is expected to receive less annuity payments, so an annuity is cheaper for an older person.  The same principle applies to sex, since women are expected to live longer than men and would receive more annuity payments, an annuity is more expensive for a woman than a man. 

 

Another factor determining the cost of an annuity is interest rates.  Since your annuity premium is invested by the insurance company in order to make your payments the cost of the annuity is related to the amount of interest the company is able to earn on its investment portfolio, typically high quality bonds.  Therefore, if bond interest rates are relatively high the cost to you (your premium) tends to be lower than when bond interest rates are lower, thus providing you with a higher monthly payment for a given amount of premium.  Conversely, if interest rates are low, the insurance companies do not earn as much and your periodic payments are lower.  Keep in mind that it only matters what interest rates are like around the time you purchase the annuity, once you purchase the annuity the periodic income payments are fixed and it doesn't matter if interest rates are high or low in the future.

 

Some companies offer what are called age-rated or impaired risk annuities, which consider a person's health status.  If you have certain health conditions which have shortened your life expectancy, you might be able to purchase an annuity at a lower rate than an otherwise healthy person at the same age.  For example, if a 65 year old man might normally receive $500 per month from his annuity premium of $75,000, a 65 year old man with diabetes might receive $750 per month from an impaired risk annuity with a premium of $75,000.

 

Other factors also affect the cost such as how the product was sold to you.  For example, the cost may vary depending on if it was sold through an agent, a broker, or online.  Also certain state regulations, taxes, and mandates also can affect an annuity's cost.

 

 

When should I buy an Immediate Annuity?

Since one of the major factors in determining the cost of an annuity is your age you need to give careful consideration as to when you purchase an annuity.  If you currently do not have a need for an additional amount of income each month it may be beneficial to wait a few years before purchasing an annuity.  By waiting a few years the cost of the annuity goes down simply because you have gotten older.  You will receive a larger payment for the same amount of money than if you had purchased the annuity when you were younger.  Notice on the examples page that if a man waits until age 75 to buy, his monthly payment will be $209 greater than if he had purchased the same annuity at age 65.

 

In addition to age, another consideration is interest rates (you could use the yield on a long term Treasury bonds for comparison).  If interest rates are relatively high you might consider purchasing your annuity sooner rather than later in order to lock in the relatively high of payment you will receive.  If rates are high enough it could offset any advantage from waiting a few years until you get older since you will receive a higher income for a longer period of time.  Also, by the time you decide you are old enough interest rates could be back down to a much lower level.  If interest rates are relatively low and you have no need for an additional income stream, then certainly it would be to your advantage to wait a few years to benefit from your increase in age. Keep in mind, however, that it is impossible to predict the direction of interest rates.  Interest rates could always decline further and erase any advantage you might be expecting from an increase in age.

 

 

Who buys an Immediate Annuity and are there restrictions on who can buy one?

Typically immediate annuities are purchased by individuals at or near retirement age in order to supplement other sources of retirement income such as a 401(k), company pension, or social security.  Companies typically have maximum age limits usually requiring the purchaser to be younger than 85-90 years old.  Some companies might also have minimum age limits.  There also might be a minimum investment required, such as $10,000. 

 

 

How much of my savings should I devote to an income annuity?

Since the funds you invest in the annuity are generally not available except as a series of periodic payments you would not want to put too much of your net worth into an immediate annuity.  Make sure that after your annuity investment you would have enough readily accessible funds to meet a large, sudden unexpected cash need that might occur.

 

 

What companies sell immediate annuities?

Many high-quality companies sell immediate annuities.  Some only sell through their own agents, some sell through insurance brokers and some sell directly to the consumer through the Internet.

 

 

What to look out for when buying an Immediate Annuity?

You need to look out for a number of things when buying an immediate annuity.

(1)   The financial strength of a company.  Obtain financial strength ratings from insurance rating agencies A.M Best, Standard & Poor's or from the company's website.

(2)   The amount of income you are quoted.  If it is much higher than other quotes you receive double check the company's financial strength to make sure they are not invested in risky assets in order to pay such a high rate or might be having other financial difficulties.  If the income is too low, check what kind of commission the agent is receiving so that most of your money is going into the annuity and not into the pocket of the person who sold it to you.

(3)   Compare the details among your annuity quotes and make sure they are the same or at least be aware any differences.  For example, one quote may be for life only and another for life only with period certain.  Or one quote may have an inflation feature and another quote may not.

 

 

Can I buy immediate annuities if I am in poor health?

Yes, you are not required to answer any health questions when buying an annuity.  However, some companies offer what are called age-rated or impaired risk annuities, which consider a person's health status.  If you have certain health conditions which have shortened your life expectancy, you might be able to purchase an annuity at a lower rate than an otherwise healthy person at the same age.  Keep in mind if you have an extremely limited expected lifespan an immediate annuity is probably not the best use of your funds.

 

 

Will my health determine my periodic payment?

No, only your age and sex will determine the amount of payment.  However, some companies offer what are called age-rated or impaired risk annuities, which consider a person's health status.  If you have certain health conditions which have shortened your life expectancy, you might be able to purchase an annuity at a lower rate than an otherwise healthy person at the same age.  Keep in mind if you have an extremely limited expected lifespan an immediate annuity is probably not the best use of your funds.

 

 

Do I have to answer a lot of health questions to apply?

No, you are not required to answer any health questions when buying an annuity.  However, some companies offer what are called age-rated or impaired risk annuities, which consider a person's health status.  If you have certain health conditions which have shortened your life expectancy, you might be able to purchase an annuity at a lower rate than an otherwise healthy person at the same age.  If you do apply for an impaired risk annuity you will be expected to provide documentation from your health care providers and answer questions about your health.

 

 

What kind of commission does my agent receive for selling me an annuity?

Typically, agents receive between 3-4% of the annuity premium.  Depending on the state where you live a portion of your premium may also go to pay state premium taxes.   The remainder is retained by the company to invest in order to make your annuity payments and to cover their expenses and make a profit.

 

 

Can I buy single premium annuities over the Internet without an agent?

Yes, there are companies online that will quote you a rate and issue a policy with no agent involvement.

 

 

What if I change my mind after I purchase the annuity?

Most, if not all annuity contracts provide a free look period, where the annuity can be returned to the company for a full refund if you are not satisfied.  This free look period is usually between 10 and 30 days after receiving your annuity contract.  You should make sure and read the annuity contract as soon as you receive it to make sure everything is recorded as you expected it would be.  An annuity contract is a legal document and if there are any questions that arise later on, it, rather than any oral statements or marketing brochures, will govern.

 

 

How much can I expect to receive from an annuity?

The amount you can expect to receive from an annuity will vary with your age and sex, but also with how much you are willing to invest.  Naturally, you will receive a larger annuity payment if you invest $75,000 rather than $50,000.  For more information visit our annuity examples page.

 

 

How often can my annuity make payments?

Annuity payments can be made in a variety of frequencies, with monthly being the most common.  Quarterly, semi-annual, and annual payments are also available and these payments can be made either directly to your bank account or by a regular check through the mail.

  

 

Are my annuity payments guaranteed?

The annuity payments are not guaranteed by the federal or state government.  They are backed by the financial strength of the issuing insurance company.  In the event an insurance company fails there is an organization in each state which will make your payments.  The state life and health guaranty associations step in to provide your payments (subject to certain limits) if an insurance company cannot pay.  For more information you can visit the National Organization of Life & Health Insurance Guaranty Associations.

 

 

If I put my money in an annuity will it be invested in the stock market?

Insurance companies invest annuity premiums in a variety of investments, primarily high quality long term bonds, but some companies may invest in stocks.  However, your annuity premium is a very small portion of the insurance company's entire diversified investment portfolio so, assuming you have chosen a financially secure company, any isolated losses will not impact the company and your annuity payments will be made on time in full. Conversely, if the company's investments do much better than anticipated you do not receive any type of extra payment or dividend.

 

 

Will my payments be fixed or will they change over time?

Traditionally, immediate annuity payments were fixed for life.  Newer immediate annuity products now have inflation protection and variable income options.  Inflation protected payments usually increase with an index, such as the Consumer Price Index (CPI) or a set amount (3%) annually.  With a variable option your annuity premium is invested in mutual funds and the income you receive will depend upon the performance of these funds.  Be aware that your future income payments could be less than your initial income payment or less than is illustrated by your insurance agent if you select a variable option. In any event, assuming you have chosen a lifetime income option (and not just payments for certain number of years) the payments will last the rest of your life.

 

 

How are my annuity payments impacted by inflation?

Traditional immediate annuities make fixed payments that do not change with inflation.  However, many companies now offer annuities where the payments will increase over time with inflation.  Of course, selecting an inflation protected annuity costs more than an annuity whose payments stay the same, but it may be worth considering this option.

 

 

Can both my spouse and I have the same annuity?

Yes, joint annuities are available.  Payments continue after the death of the first spouse and can either remain the same or decrease after the death of the first spouse.

 

 

What if I need to access the premium used to purchase my immediate annuity?

Traditionally, once you make the initial premium payment you cannot access that money except in the form of the periodic payments over your lifetime.  Some companies have built-in features that allow access to your initial premium in certain circumstances such as a terminal illness or confinement to a nursing home.  Other companies have built-in features that allow limited access to your initial premium without having to have a reason.  However, even some companies without such built-in features might make exceptions on a case by case basis and adjust the remaining balance of your initial premium to provide you with cash in an emergency situation.

 

 

What happens to my money when I die?

Depending on the exact type of immediate annuity you purchase, some remaining annuity payments may go to your beneficiary you selected.  If you select a life annuity with a 10 year period certain and you die after 5 years your beneficiary will receive payments for 5 more years.  If you select an installment refund option, your beneficiary will receive payments until the insurance company has fully paid back your initial premium.  If you select a cash refund, or lump sum refund option, your beneficiary will received one cash payment of the difference between your initial premium and the amount of payments you received during your life.

 

If you have a joint annuity, payments will continue to your spouse.  Depending on the options available and your choice of these options the payments to your spouse may continue unchanged or be reduced by some amount usually by a third or half.

 

If you selected a life only annuity, all annuity payments will cease upon your death. 

 

 What happens if my spouse dies?

If you have a joint annuity, payments continue (although possibly at a reduced level) after your spouse dies.  If your spouse has their own annuity or does not have an annuity your annuity payments are unchanged.

  

What about the tax implications of immediate annuities?

If you purchase an annuity with nonqualified funds (i.e. the money is not being transferred from a pre-tax IRA or 401(k)) your annuity payments are at least partially taxable.  The amount that is taxable is based on the exclusion ratio, which excludes from tax the portion of the payments which are a return of your initial premium.  The part that is considered interest is taxable.  Therefore, when you first buy your annuity a large portion of the income you receive will not be taxable, but if you are fortunate to live beyond your life expectancy, according to the mortality tables, all of your payments will be taxable since all these payments are in excess of your initial premium.

 

If you purchase an annuity with qualified funds from an IRA or 401(k) that contains pre-tax money then all of your annuity payments will be taxable.

 

 

Can I use my IRA to fund my annuity?

Yes, funds in an IRA can be transferred to an immediate annuity.  Any payments received from an annuity will automatically satisfy the Minimum Required Distribution requirements starting at age 70.

 

 

What about Minimum Required Distributions (MRD) with Immediate Annuities?

If your annuity was rolled over from an IRA, the annuity payments automatically meet the Minimum Required Distribution requirements set by the IRS starting at age 70.

 

 

What is a charitable gift annuity?

A charitable annuity is an immediate annuity that is issued by a charity for benefit of both the purchaser of the annuity and the charitable organization.  You donate a sum of money to the charitable organization and they get to use a portion of that money for their programs and mission and invest the rest in order to provide you with periodic payments of income, much like a regular income annuity purchased from an insurance company.  The primary difference between a charitable annuity and an annuity issued from an insurance company is the amount of income you will receive.  Since a portion of the charitable annuity funds go directly to the charity, for a given amount of money you will receive less periodic income from a charitable annuity than you will from an annuity issued by an insurance company.

  

 

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