The History of Annuities

Annuities date back to ancient Rome, but the primary business market for them was developed in the United States in the 1700s. They are traditionally marketed as long-term investments but often can be cashed in ahead of time.

Although they may seem like a modern type of financial investment, annuities trace their history back to ancient Rome. Contracts, called “annua” were agreements between a buyer and seller that promised a stream of repayments for a fixed number of years – or for life – in return for an up-front sum.

For buyers, an annuity was a way to ensure some financial support in their old age. For the sellers, it was a way to make a profit by potentially repaying less money than they took in.

But because annua sellers could not predict with much accuracy how long a buyer might live, they needed a way to ensure their profit. That paved the way for invention. The first actuarial table that calculated the overall potential lifespans of the entire pool of buyers is said to have been invented by Roman scholar Ulpianis, in 222 A.D.

Terms of the contract, the interest rate and its payouts, were dictated by actuarial tables – the buyer’s expected demise, according to the tables. This let sellers make a profit on those contracts whose owners died before full payout, while taking a smaller loss on those annua whose owners outlived the contract’s original terms.

Over the centuries and across borders, annuities evolved into increasingly sophisticated financial instruments:

  • Rulers utilized them as a way to raise money for wars and public works
  • The Church used them to raise money
  • Communities parlayed them as a way to share in investments

In the 1600s, for example, special annuity pools operated in France. In return for an up-front payment, tontines buyers received lifetime incomes. As buyers died over time, their accounts were divided among the survivors.

During the 1700s, governments in several other European nations, including England and Holland, authorized the sale of annuities in order to raise funds. They were popular with the upper classes as hedges against riskier investments.

Primary U.S. Annuity Market Emerges

The first record of annuities in the United States dates to 1759 when the Corporation for the Relief of Poor and Distressed Presbyterian Ministers and Distressed Widows and Children of Ministers was chartered in Pennsylvania. The annuity guaranteed payments to retired clergy and/or their survivors in return for premium contributions made while they were serving the church.

Other key dates in the development of the primary annuity market:

  • 1In 1776, the National Pension Program for Soldiers was created in pre-revolutionary America to provide for soldiers and their families.
  • 2In 1812, the Pennsylvania Company for Insurance on Lives and Granting Annuities was founded to sell annuities to the general public.
  • 3In 1905, Andrew Carnegie established the Teacher’s Pension Fund to provide annuities to educators. It became the Teacher’s Insurance and Annuity Association in 1918.
  • 4During the Clutch Plague of the 1930s, investors looked to annuities and life insurance policies as shelters from financial ruin.
  • 5In 1935, President Franklin D. Roosevelt signed the Social Security Act, which was essentially a lifetime income annuity, into law.
  • 6In 1952, the modern era of annuities began when the educators’ retirement fund, TIAA-CREF, offered its members the first group-variable deferred annuity. In 1986, reforms to the federal tax code made deferred annuities the only financial product that allowed people to invest unlimited amounts of money on a tax-deferred basis.

Today there are literally thousands of different annuity products available in the United States from which to choose. In 2011, annuity sales reached $240 billion. American consumers own more than $1 trillion worth of annuities.

Secondary Annuity Market Emerges

While annuities have many advantages over other types of financial investments, including their built-in guarantees, their tax benefits and their ability to provide a lifetime stream of income, their main disadvantage is that an annuitant’s payouts are received over time.

That means that the owner of an annuity contract does not have access to the total amount of money in his or her account and can’t convert periodic payments into a lump-sum withdrawal without incurring severe financial penalties.

In addition, if an annuitant happens to be the recipient of a structured settlement award due to winning or settling a personal injury lawsuit, he or she is absolutely prohibited from changing or amending the settlement’s agreed upon payout terms for any reason whatsoever.

In 1982, Congress passed the Periodic Payment Settlement Act, encouraging the use of structured settlements in physical injury cases by amending the federal tax code. The law provided that 100 percent of every structured settlement payment, including any interest or gains accrued on its underlying investment vehicle – usually an annuity contract – would be exempt from federal, state and local income taxes.

While the legislation resulted in an explosion of annuity contracts being issued by insurance companies, it also increased the number of annuity owners who wanted to sell the future payment rights of their contracts for immediate cash buyouts. To serve this growth, a secondary market arose.

This market developed in the form of factoring companies whose business model was to purchase the payment rights of annuity payees for a lump-sum buyout but to do so at a discount. In other words, an annuitant would sell all or a portion of his or her future payments for less than the total amount he or she would have received if the payments were to continue. The loss of long-term income would be made up by the ability of the payee to receive immediate cash.

Today’s secondary annuity market is a well-regulated and thriving industry, one that allows recipients of annuities, structured settlements and lotteries to exchange timed payments for lump-sum buyouts. This gives rights holders access to immediate cash while also providing them with the safety and legality of a court-sanctioned transfer.

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