How Annuities Work

Annuities have lately become some of the most popular investment options available to many people, especially among retirees and people who are prudently preparing for their retirement.

An annuity can be described as an arrangement in which the annuitant (the person taking up the annuity) makes a payment or a number of payments to the institution offering the annuities (usually an insurance company), which in turn invests the money and guarantees the annuitant an income for a lifetime.

The beauty of annuities is that the annuitant is assured of a continuous stream of income for the rest of their life. In some types of annuities (like the fixed-return annuities) the annuitant doesn’t even have to be bothered about the performance of the investments the money used to purchase the annuity is put into.

This can be particularly attractive when you are in retirement and don’t want the hassle which managing investments can be. With annuities, all you have to do is cash the regular annuity check. The insurance company or other financial institution offering the annuities absorbs some or all of the risk for the investments on your behalf. This is a great reprieve because as we all know, all investments comes with an element of risk.

Moreover, annuities can be structured such a way that if the annuitant dies before getting income from the annuity, then such income is paid to their survivors, thus serving as some form of life insurance. And in the case of married couples, annuities can also be tailored in such a way that if one spouse dies, the other spouse still continues to draw steady income from the annuity, an arrangement commonly referred to as a joint annuity.

Annuity premium can be paid either as a single ‘lump-sum’ payment or through a number of small payments over a long period of time. The later method of annuity acquisition (by payment of small sums of money over a long period of time) means that annuities are available to almost anyone who has the foresight to prudently plan for their future, and especially their retirement.

The lump-sum purchase of annuities comes in handy when one receives their retirement benefits or some other financial windfall like an inheritance. In most cases, the annuity income from single premium (lump-sum purchased) annuity becomes immediately available.

In terms of returns, annuities are classified as either fixed return or variable return annuities. In the fixed return variety of annuities, the annuitant is assured of a fixed amount of continuous income from the annuity (regardless of the performance of the investments), whereas the income from variable return annuities varies depending on a number of factors, like the performance of the investment into which the annuity premium was invested.