Annuities: The basics
Published on Nov 21, 2015
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PRESENTATION OUTLINE
Think of them as a savings account with an insurance company instead of a bank
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The advantage is that an annuity allows your money to grow on a tax deferred basis
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Annuities are designed to set money aside for a later date like retirement
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There are 2 ways to purchase annuities
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Single Premium (lump sum purchase) or Flexible Premium
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With a Single Premium program, you can annuitize your contract right away
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Annuitizing means to stop making payments in and to start taking payments out
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Taking payments right away is called a SPIA,
Single Premium Immediate Annuity
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Or with a single premium program, you can defer when you want to take your money
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This is called a Single Premium Deferred Annuity or "SPiDer"
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With a flexible premium program, you must defer when you want to take the money out
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You will need to build up your account to take payments
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This is called a Flexible Premium Deferred Annuity
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During the accumulation or growth period, your money grows on a tax-deferred basis
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That means your interest compounds on itself
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This is one of the biggest advantages of an annuity
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Annuities are not designed to payout in a lump sum
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They are designed to make payments for a set period of time or for the remainder of your life
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Since annuities are designed for retirement...
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Some companies have loan provisions to access your money without taxes at that time
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Keep in mind that annuities are only tax deferred, not tax free
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When you annuitize and take payments out, a portion is your principle and the other portion is interest or gains
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By taking payments at retirement, you spread your tax liability over a period of time
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The calculation is: the money that you've invested divided by the expected return
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Let's say you've invested $100,000 of after tax dollars in your annuity...
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Let's also say your expected return from the contract is $400,000
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$100,000 divided by $400,000 simplifies to 1/4
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Assuming that you will receive payments of $4,000 a quarter,
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1/4 or $1,000 will be excluded from tax (return of principle or cost basis)
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3/4 or $3,000 will be taxable (gains or tax basis)
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Thus spreading your tax liability over the payout period
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The difference between an annuity and a qualified plan such as an IRA or 401(k) is...
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The annual contribution limitations
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For most people, the maximum contribution to an IRA account is $5,500 a year
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If you are over 50 years of age, you may add another $1,000 a year
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401(k)'s, 403(b)'s, and other retirement plans also have maximum annual contribution limits
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Annuities do not have a maximum contribution limit
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That is my quick summary about annuities, consult your insurance professional for more details
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