Deferred Annuities
A deferred annuity is an insurance contract that promises you a regular stream of payments in the future. The three basic types of deferred annuities are fixed, indexed and variable. Deferred annuities are often used to generate retirement income.
- Written by Rachel Christian
Rachel Christian
Financial Writer and Certified Educator in Personal Finance
Rachel Christian is a writer and researcher for RetireGuide. She covers annuities, Medicare, life insurance and other important retirement topics. Rachel is a member of the Association for Financial Counseling & Planning Education.
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Matt Mauney
Matt Mauney
Financial Editor
Matt Mauney is an award-winning journalist, editor, writer and content strategist with more than 15 years of professional experience working for nationally recognized newspapers and digital brands. He has contributed content for ChicagoTribune.com, LATimes.com, The Hill and the American Cancer Society, and he was part of the Orlando Sentinel digital staff that was named a Pulitzer Prize finalist in 2017.
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Toby Walters, CFA®
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Toby Walters, CFA®, has over 25 years of financial research experience. With a knowledge and understanding of researching and analyzing financial data, he has developed a unique and experienced viewpoint on money matters. He has been a chartered financial analyst since 2003, and most recently a portfolio analyst and paraplanner.
Read More- Published: May 26, 2020
- Updated: August 27, 2024
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How Does a Deferred Annuity Work?
Annuities come in two basic forms: Deferred and immediate. Both refer to payout schedules from the insurance company.
Deferred annuities delay your annuity payouts for several years while immediate annuity payouts begin less than one year after purchase.
Many people choose to receive deferred annuity money during retirement. These payments can act like a pension for people seeking a set amount of guaranteed income later in life.
To purchase a deferred annuity, you pay an insurer either a lump sum or a series of premium payments.
The time you spend paying into an annuity is known as the accumulation phase, or savings phase.
Once you decide to begin receiving money from the insurance company, the payout phase — sometimes called the distribution phase — begins.
Deferred income annuity payments can be structured to last a specific number of years or for the rest of your life. A deferred annuity calculator can help you determine your potential future payouts.
These financial products can help provide peace of mind to retirees who worry about outliving retirement savings.
Death Benefits
Most deferred annuities include a death benefit. If you die while the annuity is still in the accumulation phase, your heir will receive some or all of the account’s value.
However, if you pass away after payments have already begun, your beneficiaries may not receive any money — unless you add a specific provision to your annuity contract or tack on a rider.
Riders are typically added to your contract at an extra cost.
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Types of Deferred Annuities
A deferred annuity is a broad term that refers to when you get paid — which is sometime in the future.
But there are different types of deferred annuities. Each subtype refers to how your account value grows along with the size of your payouts.
- Fixed
- Deferred fixed annuities are the most stable and straightforward option. A minimum guaranteed interest rate is determined when you purchase the annuity. It never changes. This offers predictability but also lower returns that may not outpace inflation over time.
- Variable
- The value of deferred variable annuities fluctuates based on underlying stocks and bonds selected when you purchase the annuity. The performance of these investments determines the interest rate for your annuity. Variable annuities carry the highest risk but also the greatest potential returns.
- Indexed
- Deferred indexed annuities are tied to the performance of a stock market index, such as the S&P 500. Your contract also guarantees a minimum interest rate which offers a measure of protection if the performance of the stock market index declines. Indexed annuities are considered less risky than variable annuities but more complex than fixed annuities.
Pros and Cons of Deferred Annuities
It’s important to understand the pros and cons of deferred annuities before purchasing one.
Whether this insurance product is a good fit for you depends on your financial situation and retirement priorities.
- Potential Income for Life
- Deferred annuity payouts can be structured to last the rest of your life, or the life of you and your spouse. This hedges against longevity risk, or the threat of outliving your money in retirement.
- Tax Deferred
- Money in a deferred annuity grows on a tax-deferred basis. This means you won’t owe taxes until you begin receiving payments in retirement or make early withdrawals.
- No Contribution Limits
- Unlike IRAs or 401(k) plans, there are no IRS limits on the amount you can contribute to a deferred annuity.
- Surrender Fees
- It is difficult to quickly access money within your deferred annuity. The insurance company will likely charge you a surrender fee for withdrawing more than 10 percent of your account balance during the first seven to 10 years of your annuity contract.
- Tax Penalty
- Like traditional IRAs and 401(k) plans, you may face a 10 percent tax penalty from the IRS if you withdraw money from your account before age 59.5. This penalty is in addition to any surrender or early withdrawal fees imposed by the insurance company.
- Additional Fees and Costs
- Some deferred annuities, such as variable annuities, tend to carry higher fees and administrative costs than other investment options. These extra costs can add up and diminish your overall returns.
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4 Cited Research Articles
- Nuss, K. (2019, December 11). When Used Correctly, Deferred Annuities Deliver Powerful Tax Advantages. Retrieved from https://www.kiplinger.com/article/retirement/t003-c032-s014-deferred-annuities-can-deliver-major-tax-advantage.html
- Financial Industry Regulatory Authority. (2016, April 22). Your Guide to Annuities: Deferred Income Annuities. Retrieved from https://www.finra.org/investors/insights/deferred-income-annuities
- National Association of Insurance Commissioners. (n.d.) Buyer’s Guide to Deferred Fixed Annuities. Retrieved from https://content.naic.org/prod_serv_home.htm
- U.S. Securities and Exchange Commission. (n.d.). Annuities. Retrieved from https://www.investor.gov/introduction-investing/investing-basics/glossary/annuities
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