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Annuity

A right to receive periodic payments, usually fixed in size, for life or a term of years that is created by a contract or other legal document.The most common form of an annuity is akin to a savings account. The annuitant, the person who creates an annuity for his or her own benefit, deposits a sum of money, the principal, with an individual, business, or insurance company to be invested so that the principal will earn income at a certain percentage, usually specified by the terms of the annuity. This income is used by the company to pay the annuitant. Each payment received by the annuitant, sometimes called the primary beneficiary, represents a partial return of the principal and a portion of the income generated by its investment. Such annuities are employed frequently to provide a source of income to persons upon their retirement. A group annuity contract supplies periodic payments to a retired individual member of a group of employees covered by their employer's master contract. A retirement annuity is a policy paid to the annuitant after retirement. If the annuitant dies prior to the expiration of the annuity or wants to surrender the policy, an amount specified in the terms of the annuity is returned to the annuitant's estate or designated beneficiary.

Classification

Annuities are classified according to the nature of the payment and the duration of time for payment. A fixed annuity requires payment in a specified amount to be made for the term of the annuity regardless of economic changes due to inflation or the fluctuation of the ventures in which the principal is invested. A variable annuity provides for payments that fluctuate in size contingent upon the success of the investment of the principal. Such variation offsets the effect of inflation upon the annuitant. If, however, the investment has fared poorly, the size of the payments decreases.

A straight annuity is a contract by an insurance company to make variable payments at monthly or yearly intervals. A life or straight life annuity is payable to an annuitant only during the annuitant's lifetime and ceases upon his or her death. The size of the periodic payment is usually fixed based upon actuarial charts that project the expected life span of a person based upon age and physical condition. This type of annuity often contains provisions that promise payment to be made to a secondary beneficiary, named by the annuitant to receive benefits in case of the annuitant's death, or to the annuitant's heirs for a period of time even if the annuitant has died before the expiration of the designated period. A deferred annuity is one in which payments start at a stipulated future date only if the annuitant is alive at that time. Payment of the Income Tax due on the income generated is delayed until payments start. A deferred annuity is used primarily by a person who does not want to receive payments until he or she is in a lower tax bracket, such as upon retirement.

A refund annuity, sometimes called a cash refund annuity, is a policy that promises to pay a set amount annually during the annuitant's life. In case the annuitant dies before receiving payments for the full amount of the annuity, his or her estate will receive a sum that is the difference between the purchase price and the sum paid during the annuitant's lifetime.

A joint annuity is one that is payable to two named persons but upon the death of one, the annuity terminates. A joint and survivorship annuity is a policy payable to the named annuitants during their lives and continues for the benefit of the surviving annuitant upon the death of the other.

Tax Aspects

When an annuity is paid to an annuitant, he or she receives a portion of the principal and part of the return it has earned. For federal and state income tax purposes, only the amount attributable to the income generated by the principal, not the principal itself, is considered taxable income. The Internal Revenue Code provides an exclusion ratio to determine the amount of taxable income paid to the annuitant. Special tax rules apply to annuities that are qualified employee retirement plans.

The annuity payments made to the estate of a decedent might be subject to estate and gift tax as an asset of the decedent's gross estate. Federal and state laws governing estate tax must be consulted to determine the liability for such taxes.

Cross-references

Pension.

classification

noun allocation, allotment, analysis, apportionment, arrangement, assignment, assortment, categorization, category, class, codification, designation, disposition, distribution, division, gradation, group, grouping, identification, methodization, nomenclature, order, ordering, orderly arrangement, ordination, organization, placement, ranking, reducing to order, regulation by a system, specification, subgroup, syntaxis, systematization, taxis, type
Associated concepts: arbitrary classification, illegal classificaaion, unreasonable classification
See also: arrangement, array, chain, class, compilation, degree, denomination, department, diagnosis, distribution, division, form, hierarchy, identification, kind, label, manner, method, order, organization, rating, rubric, segregation, separation, sequence, structure, subdivision, subheading, system, title
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