Annuities

An annuity is a contract with an insurance company in which you make a lump sum payment or series of payments (purchase payments) to the insurance company. In return, the insurance company agrees to make periodic payments to you beginning immediately or at some future date. Annuities typically offer tax-deferred earnings and may include a death component that will pay a guaranteed minimum amount to your beneficiary. There are generally two types of annuities: fixed annuity and variable annuity. Annuities are NOT FDIC insured.

Fixed annuity

— The insurance company guarantees that you will earn a minimum rate of interest during the time that your fixed annuity account is accumulating. The insurer also guarantees that the periodic payments will be a guaranteed amount, generally determined based on the amount accumulated in your fixed annuity account. The periodic payments may last for a definite period, such as 20 years, or an indefinite period, such as your lifetime or the lifetime of you and your spouse.

The following features are common to fixed annuities:

• Guaranteed Rate - The interest earned on fixed annuity is guaranteed during the guaranty period.


• Secure Principal - Although not insured, a fixed annuity from a rated insurance company can be considered secured.


• Bailout Provision - If, after the guaranteed period, the insurance company reduces the guaranteed interest rate on the fixed annuity by more than 1%, you have the option to cancel penalty-free.


• 10% IRS Penalty — Withdrawals of income from a fixed annuity before the age of 59 1/2 are subjected to a 10% tax penalty.


• Earnings are Not Considered Capital Gains — Income earned on a fixed annuity is tax-deferred, but eventually is taxed as ordinary income and not capital gains.


• Withdrawal Charges — The insurance company usually imposes a penalty if withdrawals exceed the annual required minimum distribution.

Variable Annuity

— Rather than guarantee a minimum rate of interest, the insurance company offers a range of investment options in a variable annuity, typically mutual funds, in which you can invest your purchase payments. The rate of return on your purchase payments, and the amount of the periodic payments you will eventually receive, will vary depending on the performance of the investment options you selected.

Many insurance companies now offer an investment option that is based on an equity-index, such as the S&P 500 index or any other popular indices. During the accumulation period of an equity-indexed annuity, the insurance company credits your account with a return that is based on changes in the index. Typically, the insurance company guarantees a minimum return. After the accumulation period, the insurance company will make a lump sum or periodic payments to you under the terms of your contract.

The following features are common to variable annuities:

• Variable Returns — There is no guaranteed rate for a variable annuity. Instead, you invest in a range managed equity funds ranging from money market, to US Treasury to equity funds, and the rate earned can vary from period to period.


• Tax-deferral — Variable annuities are tax-deferred, and any income earned is not taxed until withdrawn.


• Unlimited contributions — Variable annuities do not have any limit on contributions, giving you the flexibility of unlimited investment.


• 10% IRS Penalty — Income withdrawals from variable annuities before the age of 59 1/2 are subject to a 10% tax penalty.


• Earnings are Not Considered Capital Gains — Income earned on variable annuities is tax-deferred, but eventually is taxed as ordinary income and not capital gains.


• Potential Loss of Capital — Unlike fixed annuity, investment balances in variable annuities can decline in value.


• Withdrawal Charges — The insurance company usually imposes a penalty if withdrawals exceed the annual required minimum distribution.


• Management Fee — The entire variable annuity account can incur an annual management fee ranging from 1% to 3%.


• Annual Contract Fee — Generally, a $25 to $35 annual charge is incurred and paid to the insurance company to cover administrative expenses.

References:

John Hancock: John Hancock Annuities

MassMutual: MassMutual