Immediate annuities offer a way to convert a lump sum of money into an income stream to meet your financial needs for the future. Depending on the payout option chosen, immediate annuities can provide lifetime income. Payments can continue even if you live long enough to collect more than the amount of principal and gain in the contract. The way immediate annuities work is very simple: you, the investor hands a lump sum of money over to a life insurance carrier and the carrier promises to pay a guaranteed stream of income to you for the rest of your life or for a specified period, even if, as mentioned previously, the carrier ends up paying you more than you paid them. The amount of income that you receive will be based on your age, your gender, the payout option chosen, and the amount of money that you pay to the insurance carrier.
The arrangement just described is the simplest form of immediate annuity. In this scenario, the insurance company will keep any amount of unpaid principal that you gave them if you die before you can collect all of your initial payment. This is known as a straight-life payout, and it poses the risk of loss for you if you do not live long enough to recoup your principal. To help lessen this specific risk, you can opt for a joint life payout that is calculated based upon your joint life expectancies. You may opt for a joint first-to-die payout, where the payout will stop as soon as one of you dies, or a second-to-die payout where payments will continue as long as one of you is living.
Under the second scenario, payments may remain level throughout the payout phase, or they may be reduced by a certain amount after the death of the first spouse. (The right choice here will depend upon the couple's financial circumstances, risk tolerance and investment objectives.) It is sometimes possible to add guarantees to the contract that will promise at least the return of any unpaid amount of principal to the payee's beneficiaries or even the return of the owner's entire original investment amount.
Another rider that you may be able to purchase in an immediate annuity is an inflation rider, which will increase the amount of the payout on a periodic basis in order to keep pace with inflation. In other cases, the interest rate upon which the payout is calculated is increased, or payments are specifically structured to increase over time. In some cases, the payments are linked to an economic inflation barometer such as the Consumer Price Index, so that when the index rises, the payments will rise proportionately with it.
It is important to note that each of these types of guarantees often come at an additional cost. The more guarantees that are layered on to the payout, the smaller the payout typically becomes. It is important to carefully consider the ramifications of any payout options, because in most cases this decision is irrevocable. Once the annuity payout begins, it typically cannot be changed.
Annuities are not a deposit, not insured by any federal government agency, carry no bank or credit union guarantee, are not FDIC/NCUA insured and may lose value. Product guarantees are backed by the financial strength and claims-paying ability of the issuing company.