If you decide to purchase an annuity, there are different types of annuities you can choose from. You can also choose if you want to purchase with a lump sum of money or a series of payments over time.
The money used to purchase an annuity is known as a premium. The first option, which involves a lump sum payment, is known as a single premium annuity. The second option, which involves a series of payments, is known as a flexible premium annuity.
There are two main types of single premium annuities: single premium immediate annuity, also known as an SPIA, or a single premium deferred annuity, or an SPDA. Here's some information on both.
What Is a Single Premium Immediate Annuity?
An immediate annuity is an annuity that begins paying you a stream of income immediately, which typically means within a year of the purchase of the annuity.
Immediate annuities are always single premium annuities because they are purchased with a single lump sum of money. The stream of income could be guaranteed either for life or for a specific length of time.
You could also purchase a single premium immediate annuity that makes payments for your whole life while also guaranteeing payments for a minimum number of years in the event you die. For example, if you purchased an immediate annuity for life with a guaranteed payout period of 10 years but then died before the end of the 10 years, your beneficiaries would receive payments for the rest of those years.
What Is a Single Premium Deferred Annuity?
With a single premium deferred annuity, you would not receive income payments from your single premium annuity until years after you purchase it. Often, these kinds of annuities are used for retirement income.
For example, you could purchase a single premium deferred annuity when you're 55 years old with the intention of collecting payments when you're 65. In most cases, you must be at least 59 1/2 to receive money from an annuity without incurring a 10% tax penalty.
When this kind of annuity matures, you can receive payment as a lump sum, or you could begin receiving an income stream. Receiving income payments from a deferred annuity is known as annuitization. You may also be able to transfer the money into another annuity.
With deferred annuities, the period between your annuity purchase and when you receive payments is known as the accumulation phase. That's because the premium you pay for the annuity has potential to grow during this period.
An advantage here is that the growth is tax-deferred, meaning you don't have to pay taxes until the money is withdrawn. But withdrawing the money early could also lead to penalties and fees, including a 10% IRS tax penalty.
Again, there are different kinds of deferred annuities from which to choose. The main categories here are fixed, variable and fixed indexed. With a fixed annuity, the money grows at an interest rate specified in the annuity contract at the time of purchase. With a variable annuity, the premium funds are invested in sub-accounts in an investment portfolio. With a fixed indexed annuity, the rate of growth is tied to the performance of a market index. However, it's important to note that annuity growth is not always guaranteed, depending on the type of annuity you purchase.
What to Consider Before Purchasing a Single Premium Annuity
Often, people will purchase a single premium annuity when rolling over a retirement account, when selling an appreciated asset, or when they have a substantial amount of money, such as life insurance proceeds. If you have a large sum you want to use to purchase an annuity, you might want to carefully consider whether a single premium immediate annuity, a single premium deferred annuity or a flexible premium annuity is right for you.
The potential advantage of a single premium deferred annuity is that the money may grow during the accumulation phase, depending on the type of annuity you purchase. With this type of annuity, you could allow it to grow until you need to start receiving payments. However, you also could lose access to your premium until the annuity matures. You'll owe surrender charges if the contract is terminated within the surrender charge period. In contrast, a single premium immediate annuity may allow you to receive payments earlier without having to pay penalties or additional fees.
If you want to hold back some of your premium and retain the option to pay more over time, then you might want to consider a different type of annuity, such as a flexible premium annuity. For more information on the different types of annuities that are available to you, consider speaking with a financial representative.