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An annuity is a long-term contract between a purchaser and an insurance company that is designed specifically for retirement purposes. The purchaser makes a single contribution, or a series of contributions spread out over a period of time. The insurer is then obligated to make periodic payments to the purchaser starting at a future date, typically during retirement.

Annuities are used mainly to supplement more traditional sources of retirement income such as Social Security and pension plans. Common features include:

  • Tax-deferred growth. You will pay no income taxes on the earnings from your annuity investments until you begin making withdrawals or receiving periodic payments. Note that withdrawals prior to age 59½ may be subject to an additional 10% tax.
  • Unlimited contributions. Generally speaking, there is no limit to the amount of after tax money you can put into an annuity, regardless of your income level or sources of income.
  • Choice of investment options. Fixed annuities offer a stated rate of return for a specified period of time. Variable annuities include a variety of investment options, such as stocks, bonds, and money market instruments, that fluctuate with market conditions.
  • No mandatory withdrawals. If your annuity is not part of an IRA or a qualified retirement plan, you are not required to begin taking minimum distributions after age 70½.
  • Death benefit. Payout methods, in general, include insurance features that guarantee payment to your designated beneficiaries if you die before withdrawals begin. In most cases, this payment does not have to pass through probate.
  • Lifetime income benefits. Typically, you will have several options for receiving annuity payments for the rest of your life, including the choice of continuing payments to beneficiaries for a set period of time.