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What Is Annuity & How Does It Work? — The 3 Important Types

 

Introduction to Annuity

There are many options to choose from when you are planning your retirement. It is important to have a retirement plan so that you don’t have to liquidate your assets when you retire.

An annuity is one of the most common options that many people prefer when it comes to planning their retirement. In this post, we will understand what is an annuity in detail.

What is Annuity?

The concept of an annuity is very simple.

It is a contract between you and your insurance company where you give your money now in a lump sum or periodically and the insurance company will create an income stream for you after a specific period based on the option that you choose for withdrawal.

The annuity interest is deferred until the company starts paying you through the income stream.

What are the types of Annuities?

There are 3 types of annuities fixed, variable, or indexed.

I — Fixed Annuity:

A fixed annuity has the lowest risk factor. The insurance company will guarantee a minimum interest rate to the customer. This interest amount would be credited to the customer during the accumulation period.

II — Variable annuities:

Variable annuities invest the money that you have paid into policy and credit gains or losses to the account.

The owner has the option to choose where the money is invested just like a 401 k plan. In a variable annuity, the consumer does not get any guarantee for the growth of money in the annuity account hence carries the highest risk.

III — Indexed Annuity:

In an Indexed Annuity, the interest rate that is provided by the insurer is linked to the market index.

This is an alternative to the fixed annuities for the customers who are looking for a higher accumulation rate, and also want to avoid risk linked with variable annuities.

How does Annuity work?

Every annuity program has two stages accumulation and annuitization. The terms of these stages differ depending on the type of annuity you chose.

The accumulation stage is when you are paying the money to the insurance company through premiums or lump sums.

There are three types of accumulation, fixed premium, fixed premium, or single premium. In a level premium annuity, the payments are made by the customer in regular intervals selected by the customer like monthly, quarterly, semi-annually, or annually.

If the customer fails to make the payment according to the fixed schedule, the contract will lapse.

The most popular type of annuity is the flexible premium annuity. In this type of annuity, the customer can make the payment according to their choice whenever it is possible. Most insurance companies impose minimum or sometimes maximum contribution levels per payment.

The annuity benefit is only calculated once all the premiums are paid in full because the premiums are not fixed and it would be difficult for the insurance company to anticipate the time of annuitization.

In the single premium annuity, the entire accumulation is made by the annuitant in one lump sum payment. Because of the high money requirement, less number of people opt for this type of annuity.

When it comes to Annuitization there are two types, deferred and immediate. In the deferred annuitization, the customer has an option to select the date of maturity.

If the customer wants he/she can change the maturity date if needed. Immediate annuitization on the other hand is designed to make large sums of money, and generate an income source from the time the fund is created till the time it runs out.

Immediate annuitization happens only in the case of single premium accumulation with no opting to make an additional contribution.

Once the accumulation is complete, the annuitants select the payment seclude according to their requirements, and the payments will start once the first payment cycle is completed.

For example, if the customer selected an option to receive the annuitization monthly, they will receive their first income stream through a check after thirty days of opening the fund.

Conclusion

An annuity could be a great tool for planning your retirement. Considering the risks and benefits that suit the retirement strategy you can choose the best annuity program that could help you to stay afloat after your retirement.

Speak to your trusted insurance agent to check which program would be best for you in your situation.

https://www.compareclosing.com/blog/what-is-a-annuity/

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