Of the various insurance products on the market today, fixed annuities can be some of the more difficult to grasp. While conceptually, the product is not inherently difficult, the variations of the contracts themselves can leave the investor confused or discouraged.
The best way to really understand what you are getting yourself into is by carefully evaluating a couple of the basic forms of annuities available. An annuity contract is simply an arrangement between an insurance company and an individual investor. This contract defines a price in which the investor is willing to pay for a future stream of income. The price is the premium payment to the insurance company, and the stream of income is that premium annuitized.
The two basic forms of annuity contracts on the market are immediate and deferred. And while there are countless variations of each of these two types, annuities more or less must fall under one of these scenarios.
An immediate fixed annuity is an insurance contract in which the income streams to the investor begin shortly after creation of the contract. More specifically, the immediate annuity begins distributions one time period after the contract date. This will vary depending on the type of product and the frequency of payments.
Deferred annuity contracts are also defined by the distribution phase. As the name implies, these distribution payments begin at a time at some point in the future, or are deferred until a later date. This can be designed to begin payments upon retirement age, or at a point in which the beneficiary requires the stream of income.
Another distinction of immediate annuities is that they typically require a lump sum payment of premium funds to the insurance company. In contrast, deferred products can either be done in a lump sum or through another series of premium payments. For this reason, many investors use an immediate contract to transfer a lump sum of cash into a series of distributed payments.
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