An annuity is a contract with an insurer that turns a sum of money into a stream of income, often for retirement. It is the mirror image of life insurance: life insurance protects against dying too soon, while an annuity protects against living too long and outliving your savings. The owner pays the insurer, all at once or over time, and the insurer later makes periodic payments.

The parties

• Owner – buys and controls the contract.
• Annuitant – the person whose life expectancy determines the payments (the "measuring life"); must be a natural person.
• Beneficiary – receives any death benefit if the owner or annuitant dies before payments begin.

The two phases

• Accumulation phase – money goes in (a single premium or flexible premiums) and earnings grow tax-deferred.
• Annuitization (payout) phase – the insurer converts the value into income payments.

Common types

• Fixed – the insurer guarantees a minimum interest rate and bears the investment risk.
• Variable – value and payments depend on separate-account subaccounts; the owner bears the risk. It is a security, so the seller needs a FINRA registration as well as a life license.
• Fixed indexed – interest is tied to a market index, limited by caps and participation rates, with a floor (often 0%); regulated as insurance under state law.
• Immediate vs. deferred – an immediate annuity, bought with a single premium, starts income within a year of purchase; a deferred annuity starts income at a later date.

A simple example

A worker buys a deferred fixed annuity with savings. The value grows tax-deferred for 15 years. At retirement the worker annuitizes under a life-only option and receives a monthly check for life; payments stop at death.

Don't confuse it with…

• An annuity is a living benefit; life insurance pays at death.
• The annuitant is not always the owner.
• Life only pays the most per month but nothing after death; options with period certain, refund, or joint and survivor guarantees pay less per month.

On the exam

Remember that an annuity protects against outliving your money. Know accumulation vs. annuitization, fixed vs. variable vs. indexed, and immediate vs. deferred. Nonqualified withdrawals are taxed earnings first, with a 10% additional tax before 59½, and there is no step-up in basis at death.