Annuities are long-term insurance contracts that offer a fixed income stream for investors in the future, usually after retirement.
How Does an Annuity work?
Annuities are an effective way to give people a steady cash flow after they retire. Individuals who wish to purchase an annuity contract can do so independently or through their employers. They can choose between a lump sum or a series of payments. An annuity works in two main phases:
Accumulation Phase: This is the phase in which individuals pay and slowly grow their annuity funds. The earlier you start, the better and more you'll be able to collect.
Distribution Phase: Consider this phase the cash-out phase, as you finally receive all the money you invested based on your annuity contract and plans.
Some of the different kinds of annuity plans are discussed below:
Life Annuity: The receiver will continue to receive payments at the agreed-upon intervals till they die.
Life Annuity With Return Of Purchase Price: Same as Life Annuity, but in this case, after the receiver's death, the nominee selected by them will receive the initial purchase price of the Annuity.
Annuity for Guaranteed Periods: The receiver will continue to receive annuity payouts for the agreed-upon period. However, their nominees won't receive the remaining payouts if they die within that period.
Inflation-indexed Annuity: In this kind of Annuity, the payouts will increase yearly at a specific rate to account for inflation or an increase in expenses.
Joint Life Survivor Annuity: The individual and their spouse will continue to receive payouts even after the individual's death as long as the spouse is still alive.
Joint Life Annuity With Return of Purchase Price: The individual and their spouse will continue to receive payouts until both are dead. After their deaths, the nominee selected will receive the initial purchase price of the Annuity.
Annuity vs 401K
Here are the main ways an annuity is different from a 401(k):
Anyone can buy an annuity from a life insurance company, but unless they are self-employed, they can only get a 401(k) through their employer and put money into it.
With an annuity, you are sure to get money every month or at the agreed-upon intervals. Because of this, you can not run out of money when you retire. In the case of a 401(k), you do not get such security financially. You only get back what you put into the account plus any money you earn from investments.
You can only put a certain amount into your 401(k) each year (k). In 2020, people under 50 could put up to $19,500. With annuities, you can save as much money as you want for your retirement years.
You can take money out of a 401(k), but you can not do that with an annuity.
What is a Qualified Employee Annuity?
A qualified employee annuity is an annual plan purchased by an employer for their employees. It is funded with pre-tax dollars and is not taxed.