Banking » Investing » What Is An Deferred Annuity?
Advertiser Disclosure This website is an independent, advertising-supported comparison service. The product offers that appear on this site are from companies from which this website receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). This website does not include all card companies or all card offers available in the marketplace. This website may use other proprietary factors to impact card offer listings on the website such as consumer selection or the likelihood of the applicant’s credit approval. This allows us to maintain a full-time, editorial staff and work with finance experts you know and trust. The compensation we receive from advertisers does not influence the recommendations or advice our editorial team provides in our articles or otherwise impacts any of the editorial content on The Smart Investor. While we work hard to provide accurate and up to date information that we think you will find relevant, The Smart Investor does not and cannot guarantee that any information provided is complete and makes no representations or warranties in connection thereto, nor to the accuracy or applicability thereof. Learn more about how we review products and read our advertiser disclosure for how we make money. All products are presented without warranty.

What Is An Deferred Annuity?

A deferred annuity promises to pay the owner a regular income or a lump sum of money at some future date. Here's how it works
Author: Baruch Mann (Silvermann)
Baruch Mann (Silvermann)

Writer, Contributor

Experience

Baruch Silvermann is a financial expert, experienced analyst, and founder of The Smart Investor.  Silvermann has contributed to Yahoo Finance and cited as an authoritative source in financial outlets like Forbes, Business Insider, CNBC Select, CNET, Bankrate, Fox Business, The Street, and more.
Interest Rates Last Update: April 15, 2024
The banking product interest rates, including savings, CDs, and money market, are accurate as of this date.
Author: Baruch Mann (Silvermann)
Baruch Mann (Silvermann)

Writer, Contributor

Experience

Baruch Silvermann is a financial expert, experienced analyst, and founder of The Smart Investor.  Silvermann has contributed to Yahoo Finance and cited as an authoritative source in financial outlets like Forbes, Business Insider, CNBC Select, CNET, Bankrate, Fox Business, The Street, and more.
Interest Rates Last Update: April 15, 2024

The banking product interest rates, including savings, CDs, and money market, are accurate as of this date.

We earn a commission from our partner links on this page. It doesn't affect the integrity of our unbiased, independent editorial staff. Transparency is a core value for us, read our advertiser disclosure and how we make money.

What Is A Deferred Annuity?

A deferred annuity is a financial contract with an insurance company that promises to pay the owner a regular income or a lump sum of money at some future date.

Investors often use deferred annuities to supplement their other retirement income, such as Social Security. Deferred annuities differ from immediate annuities, which begin making payments right away.

One of the main advantages of deferred annuities is their tax-deferred growth. You won't owe taxes on the gains within the annuity until you start withdrawing funds. However, when you do make withdrawals, the gains are taxed as ordinary income.

Types Of A Deferred Annuity

There are three main types of deferred annuities:

  • Fixed annuities: Fixed annuities offer a guaranteed rate of return, so you know how much your money will grow over time. This can be a good option for investors who want to ensure that their money will grow safely.
  • Variable annuities: Variable annuities don't offer a guaranteed rate of return, but your money can grow more quickly if the market performs well. This can be a good option for investors who are willing to take on more risk in exchange for the potential for higher earnings.
  • Indexed annuities: Indexed annuities offer a combination of fixed and variable features. Your money grows with a guaranteed minimum rate of return, but it can also participate in the growth of a market index, such as the S&P 500. This can be a good option for investors who want to grow their money safely, but also want the potential for higher earnings.

In addition to these three main types, there are also a number of other variations of deferred annuities, such as:

  • Lifetime deferred annuities: These annuities offer guaranteed income payments for life, regardless of how long you live.
  • Fixed-period deferred annuities: These annuities offer guaranteed income payments for a set period of time, such as 20 years or 30 years.
  • Joint and survivor deferred annuities: These annuities offer guaranteed income payments for the life of the annuitant and a designated beneficiary.

Example: How Does Deferred Annuity Work?

Let's walk through an example to illustrate how a deferred annuity works:

Sarah, a 50-year-old professional, wants to start saving for her retirement in a tax-efficient way. She decides to invest in a deferred fixed annuity.

Sarah purchases a deferred fixed annuity with an initial premium of $100,000 from an insurance company. The annuity has a guaranteed interest rate of 3% per year for the first 15 years.

During the accumulation phase, Sarah's $100,000 investment grows at the guaranteed interest rate. At the end of the first year, her annuity's value would be calculated as follows: Initial Investment + (Initial Investment * Guaranteed Interest Rate) = $100,000 + ($100,000 * 0.03) = $103,000

This calculation is repeated each year for the first 15 years. At the end of 15 years, Sarah's annuity value would have grown to: $100,000 * (1 + 0.03)^15 = $155,796.

At age 65, Sarah decides to start receiving regular income from her annuity. She has a few payout options to choose from:

  • Life Annuity: Sarah can choose to receive a guaranteed income for life. Based on the annuity's value, her age, and the prevailing interest rates, the insurance company calculates a monthly income amount that she will receive for the rest of her life.
  • Fixed Period Annuity: Alternatively, Sarah can choose a fixed period annuity, where she receives regular payments over a fixed period, say 20 years. The insurance company calculates the payment amount based on the annuity value and the chosen period.
  • Joint and Survivor Annuity: If Sarah is married, she can opt for a joint and survivor annuity, which provides income for both her and her spouse's lifetime.

For the sake of illustration, let's assume Sarah chooses the life annuity option. The insurance company calculates that she will receive a monthly income of $600 based on her annuity value and life expectancy.

Sarah starts receiving her monthly income of $300 from the insurance company. T

his income is considered a mix of both her original investment and the interest earned over the accumulation phase. A portion of each payment is considered a return of her original premium, and the rest is considered interest income.

Throughout the accumulation phase, Sarah's annuity has grown on a tax-deferred basis. This means she hasn't paid taxes on the interest earned each year. However, when she starts receiving income payments, the interest portion of each payment is taxed as ordinary income.

Pros And Cons Of Deferred Annuity

Deferred annuities offer both advantages and disadvantages, and their suitability depends on your individual financial goals, risk tolerance, and circumstances.

Here are some pros and cons of deferred annuities:

Pros
Cons
Tax Deferred Growth:
Fees and Charges
Guaranteed Income
Lack of Liquidity
Flexibility
Complexity
Death Benefit

Your money grows tax deferred in a deferred annuity, which means you don't owe taxes on any earnings until you start taking withdrawals. This can help your money grow faster over time.

Many deferred annuities offer guaranteed income payments for life, ensure a steady stream of funds throughout your retirement year and provide peace of mind in retirement.

You can choose when to start taking withdrawals from your deferred annuity, and you can also choose to receive your payments in a lump sum or as a stream of income.

Many deferred annuities (but not all of them) come with a death benefit. If the annuity owner passes away before the payout phase, a beneficiary can receive the contract's value, often with certain adjustments or limitations.

Deferred annuities can come with various fees and charges, including administrative fees, mortality and expense charges, and charges for optional riders. These fees can impact the overall return on your investment.

Annuities are designed for long-term savings and income. Withdrawing funds from an annuity before a certain period, known as the surrender period, may result in surrender charges.

This lack of liquidity can be a drawback if you need access to your money quickly.

Deferred annuities can be complex financial products, and it's important to understand all the terms and conditions before you buy one.

How Does An Deferred Annuity Differ From A Immediate Annuity?

The main difference between a deferred annuity and an immediate annuity is when you start receiving payments.

With a deferred annuity, you make payments into the annuity for a period of time, and then you start receiving payments at some future date. With an immediate annuity, you make a lump sum payment into the annuity, and then you start receiving payments immediately.

Both types of annuities have their own advantages and drawbacks. Deferred annuities can offer flexibility and growth potential, while immediate annuities provide a secure and predictable income stream. Your choice between the two will depend on your retirement goals, risk tolerance, and financial needs.

How To Select An Deferred Annuity?

Here are some tips to help you make an informed decision when selecting a deferred Annuity:

  • Research Annuity Types: Learn about the different types of deferred annuities, including fixed, variable, and indexed annuities. Understand how each type works, their potential returns, and associated risks.
  • Review the Contract: Read the annuity contract thoroughly, paying attention to terms, surrender charges, income options, and any limitations. If anything is unclear, ask for clarification from the insurance company or your financial advisor.
  • Research Insurance Companies: Choose a reputable insurance company with a strong financial standing. Research their ratings and reviews to ensure they have a track record of fulfilling their commitments.
  • Evaluate Your Risk Tolerance: Different types of deferred annuities carry varying levels of risk. Fixed annuities offer stable, guaranteed returns, while variable annuities expose you to market fluctuations. Assess your comfort level with risk and how much variability in returns you can tolerate.
  • Consider Your Overall Financial Strategy: Annuities are just one component of a comprehensive financial plan. Consider how an annuity fits into your broader retirement and investment strategy.
  • Review Costs and Fees: Deferred annuities often have fees, including administrative fees, mortality and expense charges, and fees for optional riders. These fees can impact your returns. Make sure you understand the costs associated with the annuity

Deferred Annuity vs 401(K)

Deferred annuities and 401(k) plans are both retirement savings vehicles, but they have distinct features, benefits, and considerations.

Here's a comparison between the two:

  • Tax Treatment: Both annuities and 401(k) plans offer tax advantages. Annuities offer tax-deferred growth, while traditional 401(k) contributions are made with pre-tax income.

  • Investment Options: 401(k) plans generally offer more diverse investment options, allowing you to build a customized portfolio. Annuities may have more limited investment choices.

  • Employer Contributions: Only 401(k) plans offer the potential for employer matching contributions, which can significantly boost your retirement savings.

  • Income Stream: Deferred annuities provide guaranteed income options during retirement, while 401(k) plans require you to manage withdrawals yourself, potentially leaving you exposed to market fluctuations.

  • Liquidity: 401(k) plans generally offer more liquidity than annuities, as you can access your funds after age 59½ with minimal penalties.

In summary, the decision between a deferred annuity and a 401(k) plan depends on your individual circumstances, goals, and preferences.

If your employer offers a 401(k) plan with a matching contribution, it's often wise to take advantage of that free money. Deferred annuities can be useful for those looking for guaranteed income options in retirement, but they also come with various fees and limitations.

Sign Up for

Our Newsletter

Join our community for the latest attractive savings rate changes ,expert insights, and member-only perks

Savings Accounts Reviews

Picture of Baruch Mann (Silvermann)

Baruch Mann (Silvermann)

Baruch Silvermann is a financial expert, experienced analyst, and founder of The Smart Investor.  Silvermann has contributed to Yahoo Finance and cited as an authoritative source in financial outlets like Forbes, Business Insider, CNBC Select, CNET, Bankrate, Fox Business, The Street, and more.
Search
Best Savings Accounts
Top Offers From Our Partners

UpgradeLogo

Savings Rate: 5.21% APY
Minimum Deposit:
$0
 
CIT-Bank-Logo
Savings Rate: 5.00% APY
Minimum Deposit:
$5,000
Quontic bank logo
Savings Rate: 4.50% APY
Minimum Deposit:
$100
 
Advertiser Disclosure
The product offers that appear on this site are from companies from which this website receives compensation.
Top Offers From Our Partners

Chase_logo

Promotion:
$300 New Chase checking customers enjoy a $300 bonus when you open a Chase Total Checking® account and make direct deposits totaling $500 or more within 90 days of coupon enrollment.. Expired on 7/24/2024
Chase Overdraft Assist
With Chase Overdraft AssistSM, you won’t be charged an Overdraft Fee if you’re overdrawn by $50 or less at the end of the business day OR if you’re overdrawn by more than $50 and you bring your account balance to overdrawn by $50 or less at the end of the next business day

UpgradeLogo

Fees:
No monthly fees No monthly fees and no overdraft fees. Plus get reimbursed for ATM fees with an active account 
Rewards:
Up to 2% cash back Up to 2% cash back on common everyday expenses for active accounts with monthly $1,000 direct deposit, and up to 1% cash back for other purchases 

Promotion:
$300 Use Promo Code “AXOS300” for a $300 bonus when you apply for a Rewards Checking account
Up to 3.30% APY
to get the maximum rate (up to $50,000) you’ll need monthly direct deposits of $1,500 (0.40% APY), 10 transaction on your debit card (+0.30% APY), average daily balance of $2,500 on Axos Invest Managed Portfolio (+1.00% APY), average daily balance of $2,500 on Axos Invest Self Directed Trading Account(+1.00% APY) and make full monthly payment on loans (mortgage, personal and auto) with Axos account (+0.60% APY).

PNC bank logo

Promotion:
Up to $400 Open a new, select Virtual Wallet product and receive $500/$2,000/$5,000 or more in qualifying monthly direct deposits within 60 days to earn a $100/$200/$400 bonus.
Subject to state availability
PNC Virtual Wallet ® is available in AL, AZ, CA, CO, DC, DE, FL, GA, IL, IN, KY, MD, MI, NC, NJ, NY, NM, OH, PA, SC, TX, VA, WI, and WV. Virtual Wallet ® is offered in the state of MO with the exception of the Greater Kansas City area. Product availability may vary based on where you open your account and the Zip code of your primary address.

penfed personal loan

APY on Daily Balances
0.15% APY on daily balances of less than $20,000 or 0.35% APY on daily balances of $20,000 up to $50,000
Get paid up to 2 days early
Set up direct deposits and get your paycheck up to 2 days early

Promotion:
Up to $4,000 New customers may earn up to $4,000 when they open an eligible HSBC Premier checking account from January 8, 2024 through March 27, 2024 and complete qualifying activities:

• Receive a cash bonus of $1,500 when you deposit or invest $100,000 – $199,999.99

• Receive a cash bonus of $2,000 when you deposit or invest $200,000 – $299,999.99

• Receive a cash bonus of $2,500 when you deposit or invest $300,000 – 499,999.99

• Receive a cash bonus of $3,500 when you deposit or invest $500,000+

• Earn an extra $500 when you set up recurring monthly Direct Deposits totaling at least $5,000 for 3 months
Wealth Products & Advice
Get access to wealth products, insights and advice from an HSBC Financial Professional through HSBC Securities (USA) Inc
Advertiser Disclosure
The product offers that appear on this site are from companies from which this website receives compensation.

#1 In Banking

Our Newsletter

Get expert advice, insider tips, fresh banking promotions and rate changes on savings accounts and CDs

Banking Promotions & Latest Rate Updates

Our Banking Newsletter

Sign up for our newsletter and gain access to expert advice,
insider knowledge, and exclusive updates