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What Is A immediate Annuity?

An immediate annuity is a type of annuity that provides you with guaranteed income payments starting just after you make a lump-sum investment
Author: Baruch Mann (Silvermann)
Baruch Mann (Silvermann)

Writer, Contributor

Experience

Baruch Silvermann is a financial expert, experienced analyst, and founder of The Smart Investor.  Silvermann has contributed to Yahoo Finance and cited as an authoritative source in financial outlets like Forbes, Business Insider, CNBC Select, CNET, Bankrate, Fox Business, The Street, and more.
Interest Rates Last Update: April 15, 2024
The banking product interest rates, including savings, CDs, and money market, are accurate as of this date.
Author: Baruch Mann (Silvermann)
Baruch Mann (Silvermann)

Writer, Contributor

Experience

Baruch Silvermann is a financial expert, experienced analyst, and founder of The Smart Investor.  Silvermann has contributed to Yahoo Finance and cited as an authoritative source in financial outlets like Forbes, Business Insider, CNBC Select, CNET, Bankrate, Fox Business, The Street, and more.
Interest Rates Last Update: April 15, 2024

The banking product interest rates, including savings, CDs, and money market, are accurate as of this date.

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What Is A Immediate Annuity?

An immediate annuity is a type of annuity that provides you with guaranteed income payments starting immediately after you make a lump-sum investment. It is different from a deferred annuity, which starts paying out income at a future date.

Here are some of the key features of an immediate annuity:

  • Guaranteed income: The insurance company guarantees that you will receive a specific income payment for a set period of time or for the rest of your life.
  • Immediate Payouts: Unlike deferred annuities, where there's a waiting period before payouts begin, immediate annuities provide income almost immediately after the annuity is purchased.

  • Fixed or Variable Payments: An immediate annuity can offer fixed payments, where the amount remains constant over the chosen payout period, or variable payments, where the amount can vary based on the performance of underlying investments.

  • Lifetime or Fixed Period: An immediate annuity can be structured to provide payments for the lifetime of the annuitant (or the annuitant and their spouse), or it can be structured for a fixed period, such as 10, 15, or 20 years.

  • Predictable Income: Immediate annuities offer a predictable source of income, which can be valuable for retirees seeking to cover essential expenses.

  • Lack of Liquidity: Once you purchase an immediate annuity, the payments are typically not accessible as a lump sum. This lack of liquidity is one trade-off for the guaranteed income stream.

Immediate annuities can be attractive to individuals who want a guaranteed and predictable income stream in retirement without having to manage investments themselves.

However, it's important to carefully evaluate the terms of the annuity, associated fees, and potential tax implications.

How Does Immediate Annuity Work? Example

Here's an example of how an immediate annuity works:

Let's say you're a 65-year-old retiree named Jane who has just received a $200,000 inheritance. You're looking for a way to ensure a steady stream of income for your retirement years, and you're considering purchasing an immediate annuity.

You decide to use the $200,000 to purchase an immediate annuity from an insurance company. After researching your options, you choose a single-life immediate annuity with a fixed monthly payment and no inflation adjustment. 

You give the insurance company your $200,000 inheritance as a lump-sum payment to purchase the immediate annuity.

The insurance company calculates your monthly payment, which translates to $800 monthly after fees (this is just an example; in reality, the numbers may differ). 

Here are some of the factors that will affect the amount of income you receive from an immediate annuity:

  • Your age: The younger you are when you purchase an annuity, the higher your income will be.
  • The amount of money you invest: The more money you invest, the higher your income will be.
  • The length of time you want to receive payments: If you want to receive payments for life, your income will be lower than if you want to receive payments for a specific period of time.
  • Whether you want fixed or variable payments: Fixed payments will remain the same for the life of your annuity, while variable payments will fluctuate based on the performance of the underlying investments.

Since you chose a fixed monthly payment option, the insurance company will pay you $800 every month for the rest of your life. These payments will continue regardless of the financial markets' performance or other economic factors.

So, you now have a guaranteed income stream of $800 per month for the rest of your life. This can help cover your living expenses and provide financial security in retirement.

Keep in mind that with a fixed monthly payment, the purchasing power of your payments may decrease over time due to inflation. You'll receive the same $800 per month regardless of changes in the cost of living.

Pros And Cons Of Immediate Annuity

Here are the pros and cons of immediate annuities to consider:

Benefits
Drawbacks
Guaranteed Income
High Fees
Flexibility
Lack of Liquidity
No Investment Decisions
Inflation Risk
Longevity Protection

One of the main benefits of immediate annuities is the assurance of a steady stream of income for life or a specified period, helping to cover essential expenses in retirement.

It's not influenced by market fluctuations or economic conditions, offering stability and peace of mind to budget and manage your retirement expenses.

You have a lot of flexibility when it comes to choosing the frequency of your income payments, the length of time you want to receive payments, and whether you want your payments to be fixed or variable.

This can help you tailor your annuity to your specific needs and circumstances.

With an immediate annuity, you don't need to make investment decisions or manage your investments, making it an attractive option for individuals who are not comfortable with investment complexities.

An immediate annuity with a lifetime payment option can protect against the risk of outliving your savings, as payments continue as long as you're alive.

Immediate annuities typically have high fees, which can reduce your overall return. 

This is because the insurance company has to take into account their costs and the risk that you may live longer than expected.

Once you purchase an immediate annuity, you typically can't access the principal as a lump sum. 

This lack of liquidity can be a drawback if you need a large sum of money for unexpected expenses.

Unless you choose an annuity with an inflation adjustment feature, the purchasing power of your fixed payments might erode over time due to inflation.

Immediate vs Deferred Annuities

Immediate and deferred annuities are both types of annuities, but they work in different ways.

An immediate annuity provides you with guaranteed income payments starting immediately after you make a lump-sum investment. A deferred annuity, on the other hand, does not start paying out income until a future date, which you choose.

Here is a table that summarizes the key differences between immediate and deferred annuities:

Feature
Immediate Annuity
Deferred Annuity
When payments start
Immediately
At a future date
Fees
Typically higher
Typically lower
Risk
Lower risk
Higher risk
How payments are determined
Based on the amount of money you invest and your age
Based on the performance of the underlying investments

What Is A Single Premium Immediate Annuity?

A Single Premium Immediate Annuity (SPIA) is a specific type of immediate annuity that is purchased with a single lump-sum payment, typically from savings or an inheritance. It provides an immediate and regular stream of income payments that start shortly after the lump-sum payment is made.

The main difference between a SPIA and other immediate annuities is the amount of flexibility you have when making your purchase.

With a SPIA, you only have one chance to make your lump-sum payment. If you don't have the full amount available when you purchase the annuity, you won't be able to purchase it. With other types of immediate annuity, you can make multiple payments over time, which can be helpful if you don't have the full amount available upfront.

Another difference between SPIAs and regular immediate annuities is the fees. SPIAs typically have higher fees than other immediate annuities. This is because SPIAs are more risky for the insurance company. When you purchase a SPIA, the insurance company is guaranteeing to pay you a specific income stream for a set period of time or for the rest of your life.

If you live longer than expected, the insurance company will have to pay you more money than they originally expected. Regular immediate annuities, on the other hand, are not as risky for the insurance company because the payments are not guaranteed for life.

How To Pick An Immediate Annuity?

Choosing the right immediate annuity involves careful consideration of your financial goals, needs, and preferences. Here are the steps you can take to pick an immediate annuity that aligns with your retirement plans:

  • Define Your Goals: Clarify your retirement objectives. Do you need guaranteed income to cover essential expenses, or are you looking for supplemental income? Decide on the duration of the income stream. Do you want payments for your lifetime or for a specific period?
  • Understand the Types of Immediate Annuities: Research the various types of immediate annuities available, such as single-life or joint-life annuities, fixed payments or inflation-adjusted payments, and lifetime or fixed-period options.
  • Compare Insurance Companies: Look for reputable insurance companies with a history of financial stability and strong ratings from rating agencies. You want to ensure that the company will be able to fulfill its payment obligations over the long term.
  • Ask Questions: Even if you understand how an annuity works, don't hesitate to ask the insurance company or your financial advisor any questions you might have. Make sure you have a clear understanding of how the annuity works.
  • Consider Tax Implications: Understand the tax treatment of annuity payments. Depending on the type of annuity and your jurisdiction, annuity payments might be partially taxable as ordinary income.
  • Review the Contract and Terms: Thoroughly read the annuity contract. Understand the terms, fees, surrender charges, payment options, and any potential penalties for early withdrawals.

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FAQs

There is no accumulation period for immediate annuities, as these annuities are designed to start making payments shortly after the initial premium is paid.

Immediate annuities begin making payments immediately after you make the lump-sum payment.

Yes, you can buy an immediate annuity at age 45. However, the amount of income you receive will be lower than if you were to buy an annuity at a later age.

The amount of income you receive from an immediate annuity will depend on the amount of money you invest, your age, and the payout option you choose.

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Picture of Baruch Mann (Silvermann)

Baruch Mann (Silvermann)

Baruch Silvermann is a financial expert, experienced analyst, and founder of The Smart Investor.  Silvermann has contributed to Yahoo Finance and cited as an authoritative source in financial outlets like Forbes, Business Insider, CNBC Select, CNET, Bankrate, Fox Business, The Street, and more.
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