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How Does an Annuity Work?

How Does an Annuity Work?

Did you know that around 48% of investors own an annuity? If you are contemplating jumping on the annuity bandwagon and are wondering “how does an annuity work?” we are here to tell you everything that you need to know about annuities in the guide below.

Keep reading to learn the ins and outs.

How Does an Annuity Work?

The most simple explanation is that an annuity is a contract between an insurance company and a person to cover certain goals. Usually, these goals include lifetime income, principal protection, long term care costs, or legacy planning.  

Keep in mind that an annuity should not be confused with an investment instead they are contracts. When a person signs up for an annuity they are under contractual obligations and if they are ever broken there usually are high costs for doing so. 

A reputable finance company such as Rightway Funding Facebook will make sure that you understand the terms of what you are signing. Things such as what your payments will be, etc.

Annuity VS Life Insurance 

Some people get a bit confused with the difference between taking out a life insurance policy and signing an annuity contract. With a life insurance plan, the policyholder pays a premium every year or every month for a certain number of years to the insurance company. If the policyholder dies prematurely (during their policy term) then the company will pay out a lump sum to the named beneficiary upon their death. 

With an annuity, the person is dealing with longevity or the risk of outliving their assets. Those that issue annuities might decide to sell annuities to customers that have a higher risk of premature death because it will cost them less in the long run vs a life insurance company that charges more for those at risk of a premature death so that they can avoid paying anything out. 

Fixed Annuity

One type of annuity is called a fixed annuity and it is like having a savings account with an insurance company. They are similar to having a certificate of deposit. The rate for fixed annuities is usually around 5% and this is not much if your goal is to save for retirement. 

Variable Annuity

With this type of annuity, you have mutual funds inside an annuity. The payments once retirement comes around will all depend on how well those mutual funds perform over the years. The money can fluctuate a lot over time hence the name variable. 

Keep in mind that you will have to pay taxes on the growth the annuity makes over time when you start to take money out of the annuity. 

Feeling Like an Annuity Pro?

We hope that now that we answered the question “how does an annuity work?” you can make an informed decision whether or not an annuity is right for you and your circumstances. Annuities are not for everyone but for some people they are a must-have. 

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