Annuities and Retirement Products
Annuity basics
An annuity is a contract that pays a stream of income, typically for life. It is the opposite of life insurance: life insurance protects against dying too soon; an annuity protects against living too long. Key elements: accumulation phase, annuitization (payout) phase, owner, annuitant, and beneficiary.
Types
- Immediate vs. deferred.
- Fixed (guaranteed rate) vs. variable (subaccounts, securities license required) vs. indexed (credited by an index).
- Qualified (IRA, 401(k)) vs. nonqualified.
Payout options
Life only, life with period certain, joint and survivor, fixed period, and fixed amount. Life-only pays the most per dollar but ends at death.
Taxation
Nonqualified annuities grow tax-deferred; withdrawals are LIFO (earnings first) until annuitized, then exclusion ratio applies. Withdrawals before 59½ may incur a 10% penalty plus ordinary income tax on earnings. Qualified annuities are generally fully taxable.
Traps
- Confusing owner and annuitant.
- Assuming all annuity income is tax-free - it is tax-deferred, not tax-free.
- Forgetting the surrender charge period.
Rule of thumb
Nonqualified withdrawals: earnings first, then basis. Annuitized payments: exclusion ratio splits basis from taxable earnings.