Single-premium annuities are purchased with a lump sum of money, and offer a guaranteed source of income for retirement. They can be immediate or deferred, but once purchased, can’t be returned, and surrender fees are steep.
An immediate annuity, also known as an income or single premium immediate annuity (SPIA), is a contract between you and an insurance company designed for income purposes only. Unlike a deferred annuity, an immediate annuity skips the accumulation stage and begins paying out income either immediately or within a year after you have purchased it with a single, lump-sum investment.
Individuals approaching retirement age may choose this type of annuity because they will be able to make large contributions without the limitations of 401(k)s, IRAs and other popular retirement plans. Single premium immediate annuities allow seniors to supplement Social Security income and pension plans, which might not provide enough to cover retirement living expenses.
Immediate annuities can be highly tailored — owners can receive payments monthly, quarterly or yearly, and the payments can come for a short period of time or decades, potentially past the owner’s death. Payments will consist of the account principle — the money the owner put into the account — as well as any interest earnings that may have accrued over time.
How an immediate annuity is taxed depends on how the money was put into the account. If the annuity was purchased with after-tax dollars it is non-qualified, meaning the owner will only have to pay income tax each year on any interest earnings.
The interest rate on an immediate annuity can be:
In the case of a fixed rate, each payment to the annuity owner will be the same. If the annuity is variable, the amount of each check will differ. These options help protect payments from inflation rates.
A person or company can purchase an immediate annuity from an insurance company using a lump sum. This lump sum, or premium, must be paid up front.
The type of premium you use to find the annuity will impact the amount you receive in payments. Annuities are considered a form of income, so they are potentially subjected to income taxes.
If you fund the annuity with a premium that has not been taxed already or was previously exempt from income taxes, it is considered a qualified immediate annuity and will be taxed when payments are made. If you fund the annuity with a premium that has been taxed already, it is considered a non-qualified immediate annuity and will not be subject to income tax again.
Examples of qualified immediate annuity premiums include:
Examples of non-qualified immediate annuity premiums include:
Yes, you are able to sell your single premium immediate annuity. Unlike a structured settlement, the payments from an immediate annuity can be sold for cash without going through the hassle of going to court for a judge’s approval.
Because you purchase this investment product on your own — rather than accepting it as a result of a lawsuit — you have the freedom to sell payments for cash if you’re experiencing financial difficulty.
The advantages of an immediate annuity are certain guarantees that protect the principal you invested and the benefits contingent upon the annuitant’s age. These advantages include:
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While an immediate annuity can provide a consistent income stream in your retirement years, there are drawbacks. Purchasing immediate annuities can prevent you from being able to afford other investments. Here is a description of these disadvantages:
Total annuity sales in the U.S. reached nearly $112 billion by the end of Q2 2016, slightly above sales at the same time in 2015. During that quarter, fixed annuity sales reached $29.5 billion and variable annuity sales reached $26.4 billion. Even if you decide that an immediate annuity is a good investment choice, most experts advise you to not put all of your available assets into one, but rather leave enough in stocks, bonds and ready cash for unexpected needs.
Also, you should make sure the insurance company that issues your annuity is highly rated by any of the financial institution rating agencies like Moody’s, Fitch, Standard & Poor’s or A.M. Best.