Deferred Annuity Contract: Everything You Need to Know
A deferred annuity contract is used to indicate when the deferred annuity will start making income and how much the insurance will guarantee as a set income.3 min read
2. Advantages and Disadvantages of Deferred Annuities
3. Other Types of Annuities
A deferred annuity contract is used to indicate when the deferred annuity will start generating income and how much the insurance company will guarantee as a set income. Deferred annuities (sometimes called investment annuities) collect premiums and build up an investment income for an extended period. The income generated is then paid out at a later date, such as when the person retires. Deferred annuities are available in variable and fixed forms.
A deferred income annuity (DIA) or longevity annuity is ideal for investors who want to set the exact date when the payments will begin. The payments can start in a few years or a few decades, and they continue for the lifetime of the investor, spouse, or for a specific time frame. A DIA can be purchased through insurance companies by providing a lump sum or with pay installments over time.
Deferred Annuity Contracts
A deferred annuity contract is designed to avoid any rise or fall in the stock market and does not affect the future income you will receive. Additional contributions may be added, but how the contributions will affect future income will be stipulated in the contract. Moreover, they will be based on how often the contributions are made. Deferred income annuities can be funded in several ways, including:
- The cash from a maturing Certificate of Deposit or CD
- Exchanging money from a Deferred Annuity account
- Proceeds from the sale of a home or business, bonds, or stocks
- Lump sum distribution from a 401k, Roth IRA, Traditional IRA, or another tax-qualified defined benefit.
Deferred annuity contracts contain information, including:
- The date when the deferred annuity will become an immediate annuity
- How frequently the payments will be received known as the mode. Options include monthly, quarterly, or yearly.
Any funds deposited with the insurance company are at either a variable, fixed, equity-indexed, or longevity annuity contract. Any taxes assessed from gains of the investment are deferred until the money is withdrawn. In addition, any funds withdrawn before the age of 59 1/2 will be assessed a penalty tax of 10 percent on top of any regular yearly income taxes.
Advantages and Disadvantages of Deferred Annuities
Before choosing a deferred annuity, the advantages and disadvantages should be thoroughly reviewed. While deferred annuities are considered low-risk, accessing the money early may include substantial charges, including taxes and fees. Some of the advantages include:
- Tax-deferred investment
- Low-risk investment
- Guarantees against loss
- Lifetime benefits
- Bypassing probate
- Death Benefits
- No contribution limits
- Transfer the annuity to immediate to begin payments.
Some of the disadvantages to consider include:
- Lack of liquidity
- High tax rates on earnings
- No step-up basis
- Additional expenses.
If the financial needs of the investor change over time, and the deferred annuity reaches the income phase, it may be possible to sell the payments to reduce or eliminate long-term debt.
Other Types of Annuities
Fixed Deferred Annuity:
- A fixed deferred annuity defers any interest to the time when a withdrawal is taken, not for each tax year.
- The interest rate is guaranteed and will be provided when the annuity is purchased.
- A preferred option for those who don't like taking risks and don't need the interest income until they reach the age of 59 1/2.
Variable Deferred Annuity:
- Similar to the ownership of multiple mutual funds.
- The group of mutual funds is called subaccounts.
- The investor picks from a list of preselected equity investments and bonds.
- The return on investment depends on the subaccount's performance.
- Considered a fixed annuity, despite having characteristics of both fixed and variable annuities.
- Contain two elements:
- A guaranteed minimum return.
- A higher rate of return calculated by a formula works with a stock market index like the S&P 500 Index.
- Has higher surrender charges.
- Seen as purchasing insurance based on a long life expectancy.
- Money deposited is held until a later date and frees up other assets to support your lifestyle.
- Provides a stream of income later in life.
- An example would be depositing $200,000 at the age of 60, which would then start providing income when you reach the age of 80.
- Taxes are deferred until the money is taken out.
If you need help with a deferred annuity contract, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.