Part 4 of 17

What are the Different Characteristics of Annuities?
There are several different types of annuities. They can be categorized according to three main characteristics: 1) Premiums, 2) Payment Return and 3) Return on Investment.
1) Premiums
The cost of the annuity will depend on many factors:
1. How much you will contribute to your account
2. The rate of return earned by the fund
3. The length of time the money is left in the fund
4. The procedure for distribution of the fund’s beneficiaries (note that options can raise or lower your monthly annuity return).
An annuity may be purchased either through a single lump-sum premium or through annual premium payments. If you happen to have a large sum of money to invest at one time – for example, from an inheritance or from a pension fund – you may want to purchase an annuity with a lump-sum payment. This is known as a single-premium deferred annuity (SPDA). Once you have made the initial investment, no further contribution is required.
An SPDA is a base annuity that works in the following way: You buy a contract and pay a lump-sum up front, which guarantees future payments. If you die before you begin to receive withdrawals, the policy will pay the estate the contract’s face value plus interest. If you live past 59½, you may begin your withdrawal program or you may cash in the policy and receive your principal plus all the interest earned on it tax deferred. This is similar to a nondeductible IRA since the income stays tax deferred in the annuity until it is withdrawn; yet it is better because you are not limited to a maximum deposit.
Annuity income depends on life expectancy and is thus classified as life insurance. This is important for you to understand because the classification allows the annuity’s investment earnings to be treated as tax deferred, with no tax on its accumulation until the money is withdrawn. This is surprising since well over 95 percent of the annuity is invested while only a very small balance is for insurance.
But watch out if you withdraw before age 59½. Except in certain cases, a premature withdrawal will cost you an IRS penalty of 10 percent. There is also an insurance company surrender penalty (in some cases) of 7 percent of your investment if you withdraw during the first year, 6 percent during the second year, 5 percent during the third year, and so on. From the eighth year on, no penalty is charged. Make sure you find out about surrender charges before deciding on where to invest in an annuity and be sure to ask your agent or broker about sales charges (if there are any) before you buy.

Thought For the Week

In this world of people who could care less, be someone who cares more.