The available annuity payout options are as follows:
Life Income (Straight): The straight annuity payout option is the riskiest option, but has the highest monthly payment. The payments are guaranteed for life and cease at the death of the annuitant.
Period Certain (Fixed Period Annuity): This payout option provides payments for a fixed period (for example, 10 or 20 years). If the annuitant dies during that period, a beneficiary receives the remaining payments. If the annuitant lives beyond the period, payments stop once the period ends.
Life Annuity with Period Certain: Payments are guaranteed for the annuitant’s lifetime or for a specified period (e.g., 10 or 20 years), whichever is longer. If the annuitant dies during the guaranteed period, the beneficiary receives the remaining payments. If the annuitant lives beyond the period, payments continue for life.
Refund: This is the most conservative option and has the lowest payments. If the annuitant dies before receiving payments equal to the contract’s value at annuitization, the beneficiary receives the remaining balance. Refunds may be paid either in a lump sum (cash refund) or in continued installments (installment refund).
Joint Life: The joint life annuity payout option covers two or more people, commonly spouses. The contract will pay monthly as long as one of the annuitants is living. Depending on the contract, the payment may remain steady or may be reduced at the death of the first annuitant.
Taxation of annuity payments differs from withdrawals during the accumulation stage. Once a contract has been annuitized, the 10% early withdrawal penalty no longer applies because payments are treated as a scheduled annuity stream, not as withdrawals. The tax liability applies only to the portion of each payment that represents growth. Fixed annuity payments stay the same each month, while variable annuity payments may change based on investment performance.
The IRS accommodates for portability of funds in life insurance and annuity contracts. Internal Revenue Code 1035 allows the transfer of funds from one product to another or from one company to another. Under 1035 exchange rules, tax on accumulated earnings will be deferred for the following transfers:
Equity indexed annuities are fixed annuities that offer a guarantee against loss of principal if held to term. With an equity indexed annuity, interest credited is linked to the upward movement of a designated index, such as the Standard and Poor’s 500 (S&P 500). If the index moves upward, the interest rate is based on some portion of the increase. If the index moves downward, the equity indexed annuity does not lose value.
Another fixed annuity product with a market driven aspect is the market value adjusted annuity. Rather than having the interest rate linked to an index, as with an equity indexed annuity, a market value adjusted annuity’s interest rate remains fixed. The market value adjustment feature applies only if the contract is surrendered before the contract period expires.
If a market value adjusted annuity owner surrenders the contract early, a surrender charge and a market value adjustment will apply. If interest rates decrease during the contract period, the adjustment will be positive and may add to the surrender value of the contract. However, if interest rates increase over the period, the adjustment will be negative and may increase the contract’s surrender charge.
IRS rules under Code 1035 allow portability of funds between life insurance and annuity contracts, deferring tax on certain transfers such as life-to-life, life-to-annuity, and annuity-to-annuity. Transfers from an annuity into life insurance are not permitted.
Available annuity payout options include Life Income, Period Certain, Refund, and Joint Life, each offering varying levels of risk and benefits.
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