An immediate annuity, also known as a single premium immediate annuity, is a contract between you and an insurance company. You pay the insurer a lump-sum contribution, and in return, the money is converted into a stream of guaranteed payments. Payouts begin within one year of purchase.
How Does an Immediate Annuity Work?
Annuities come in two basic forms: Immediate and deferred. Both refer to when you start receiving money after purchasing an annuity.
For immediate annuities the answer is quickly — usually less than a year after signing the annuity contract with an insurance company.
Deferred annuities delay payouts. You won’t receive money from the insurer for several years.
To purchase an immediate annuity, you pay the insurance company a lump-sum deposit. Payouts begin soon after.
The size of those payouts is calculated using several factors, including your age, prevailing interest rates and how long you want payments to last.
Payouts may continue for several years or for the rest of your life. The choice is yours.
The amount you can expect to receive each month or quarter is usually fixed, but not always.
Some insurance companies offer other options, including immediate variable annuities and inflation-protected annuities.
Annuities are often used to secure income in retirement. They ensure retirees won’t outlive their savings.
This is an attractive benefit for a growing number of older Americans, according to research by Cannex, a Toronto-based company that provides a popular platform for learning about annuity pricing.
Cannex’s 2020 Guaranteed Lifetime Income Study found that 71 percent of respondents consider guaranteed income a highly valuable addition to Social Security, up from 67 percent the year prior.
An immediate annuity may also be called an immediate payment annuity, a single premium immediate annuity or an income annuity.
Types of Immediate Annuities
While immediate annuities describe when payouts begin, different subtypes describe how much money you can expect to receive from the insurance company during the payout phase.
- Fixed immediate annuities offer predictable, stable payouts. Payments are static and don’t fluctuate from month to month. This is the most common type of immediate annuity.
- Inflation-protected immediate annuities increase your payouts, usually yearly, at a fixed rate to keep pace with inflation. These increases are based on a predetermined formula and are often tied to changes in the consumer price index. However, this option tends to pay lower initial payouts compared to other types of annuities.
- The size of payouts from an immediate variable annuity can fluctuate. Payments may be higher one month than another because the value of your annuity account is tied to the performance of selected stock market investments. This type of immediate annuity carries the greatest risk if the market declines but also the greatest potential returns.
What to Consider Before Purchasing
There are advantages and disadvantages to immediate annuities. It’s important to understand both before making a decision to purchase one.
- Guaranteed Retirement Income
- People often use single premium immediate annuities to supplement their retirement. Seniors may prefer the peace of mind and stability annuities offer compared to the unpredictability of the stock market.
- No Fees
- You don’t pay a direct fee when you buy an immediate annuity. There are no account management or account maintenance charges.
- Easy to Use
- Once an immediate annuity contract is established, there’s no additional work or maintenance involved.
- Immediate Income
- As the name implies, immediate annuities begin paying out right away. You don’t have to wait several years for your annuity contract to accumulate and grow.
Disadvantages of Immediate Annuities
While immediate annuities have perks, they aren’t right for everyone.
Because you can no longer access your money after signing an immediate annuity contract, you need to make sure you have enough liquid cash in your bank accounts to cover emergencies and other unforeseen expenses.
Another way to minimize potential risks is by diversifying your investments.
Nearly all financial experts advise against placing all your available resources into a single asset. Annuities can be a great addition to your well-rounded portfolio — but they shouldn’t be your only investment.
Finally, it’s important to research potential annuity providers and carefully review your options.
Make sure the insurer has a strong financial history.
Rating agencies like Moody’s, Fitch, A.M. Best, and Standard & Poor’s are all reputable places to research companies. You can also check with your state’s insurance commissioner.
6 Cited Research Articles
- Cannex. (2020). The Top 10 Key Findings; A Study Summary of the Sixth Annual Guaranteed Lifetime Income Study (GLIS). Retrieved from https://www.cannex.com/wp-content/uploads/2020/06/GLIS-2020-Top-10-Key-Findings.pdf
- Pfau, W. (2020, May 12). Popular Income Annuity Options And Flavors In Practice. Retrieved from https://www.forbes.com/sites/wadepfau/2020/05/12/popular-income-annuity-options-and-flavors-in-practice/#7a35d05f2560
- Lankford, K. (2018, September 27). How to Shop for an Immediate Annuity. Retrieved from https://www.kiplinger.com/article/retirement/T003-C000-S004-how-to-shop-for-an-immediate-annuity.html
- Haithcock, S. (2015, June 16). Why immediate annuities still matter. Retrieved from https://www.marketwatch.com/story/why-immediate-annuities-still-matter-2015-06-16
- Powell, R. (2015, May 27). If you understand the cons, annuities can have a lot of pros. Retrieved from https://www.usatoday.com/story/money/columnist/powell/2015/05/27/annuity-annuities-robert-powell/28011689/
- CNN Money. (n.d.) Immediate Annuities. Retrieved from https://money.cnn.com/retirement/guide/annuities_immediate.moneymag/index.htm