An annuity is a contract between you and an insurance company that is designed to meet retirement and other long-range goals, under which you make a lump-sum payment or series of payments. In return, the insurer agrees to make periodic payments to you beginning immediately or at some future date.
Annuities typically offer tax-deferred growth of earnings and may include a death benefit that will pay your beneficiary a specified minimum amount, such as your total purchase payments. While tax is deferred on earnings growth, when withdrawals are taken from the annuity, gains are taxed at ordinary income rates, and not capital gains rates. If you withdraw your money early from an annuity, you may pay substantial surrender charges to the insurance company, as well as tax penalties.
This annuity has no accumulation phase. Instead, you start receiving annuity payments right after you purchase the annuity.
An annuity contract that is purchased with a single lump-sum payment and in exchange, pays a guaranteed income that starts almost immediately. An immediate payment annuity is especially suitable for retirees who are concerned about outliving their savings.
However, one disadvantage is that an immediate payment annuity is irreversible once it has been purchased. This may pose a problem should the annuitant need a large sum to deal with an emergency.