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Annuity

An annuity is a financial contract between an individual and an insurance company, in which the insurer agrees to provide periodic payments to the annuitant—either immediately or at a specified future date—in exchange for one or more premium payments made by the individual.^[1] These payments can be structured as a lump sum or installments, and the contract is designed primarily to generate income, often for retirement purposes.^[2] Annuities typically operate in two phases: the accumulation phase, during which premiums are paid and the funds grow on a tax-deferred basis, and the payout phase (also known as the annuitization phase), when the insurer begins distributing regular payments to the annuitant.^[3] This structure allows annuities to serve as a hedge against longevity risk, ensuring a steady income stream that can last for a fixed period, the annuitant's lifetime, or a combination thereof.^[4] Under U.S. tax law, earnings within the annuity grow tax-deferred until withdrawals are made, at which point they are taxed as ordinary income.^[4] The most common types of annuities include fixed annuities, which guarantee a minimum interest rate and provide predictable payments; variable annuities, where payment amounts fluctuate based on the performance of underlying investment options such as mutual funds; and indexed annuities, which tie returns to the performance of a market index like the S&P 500 while offering downside protection.^[2] Annuities can be classified further by timing as immediate annuities, which begin payouts shortly after purchase, or deferred annuities, which delay distributions to allow for greater accumulation.^[5] While annuities offer benefits like guaranteed income and tax advantages, they often involve fees, surrender charges for early withdrawals, and limited liquidity, making them suitable primarily for long-term retirement planning.^[2]

Definition and Fundamentals

Core Concept

An annuity is a financial instrument defined as a series of equal payments made at regular intervals over a specified period or for the duration of an individual's lifetime.^[6]^[4] Unlike a lump-sum investment, which delivers a single payment upfront or at maturity, an annuity structures funds to provide a predictable stream of income, often through a contract with an insurance company or financial institution.^[1] Key characteristics of annuities include their potential for a fixed duration, such as a set number of years, or contingency on life expectancy, where payments continue as long as the annuitant lives.^[7] They serve multiple roles in finance, including generating steady income streams for retirement, amortizing loan repayments through scheduled installments, and functioning as insurance products to mitigate longevity risk.^[1] Basic terminology encompasses the principal, representing the initial investment or borrowed amount; the interest rate, which influences the growth or cost associated with the payments; the payment amount, the consistent sum disbursed each interval; and the number of periods, denoting the total installments.^[8]^[9] For example, a retiree might contract for an annuity delivering $100 monthly for 10 years, ensuring reliable supplemental income without the volatility of market-dependent withdrawals. Annuities vary by structure, such as payment timing or variability, but their core appeal lies in this reliable periodicity.^[10]

Historical Context

The concept of annuities traces its origins to ancient Rome, where contracts termed annua—meaning annual stipends—provided periodic payments to retiring soldiers, government officials, and citizens in exchange for lump sums or services.^[11] The Roman jurist Ulpian (c. 170–228 AD) is recognized as one of the earliest figures to formalize annuity dealings, establishing precedents for lifetime payment arrangements.^[12] In medieval Europe, particularly in England, annuities evolved as a mechanism for governments and institutions to finance debts and projects, with buyers receiving fixed annual returns in lieu of interest-bearing loans, often circumventing usury laws.^[13] By the 17th century, this practice advanced through tontines in England, such as the State Tontine of 1693, where groups pooled investments to fund lifelong annuities that escalated for surviving participants, serving as an early form of collective risk-sharing for public debt.^[14] The late 17th century marked significant progress in actuarial foundations for annuities, highlighted by astronomer Edmund Halley's 1693 mortality tables derived from Breslau (now Wrocław) birth and death records, which enabled the pricing of life annuities by estimating survival probabilities and integrating them with life insurance principles.^[15] These innovations facilitated the growth of annuity markets in Europe, where governments sold life annuities to fund wars and infrastructure. In the United States, annuities emerged in the colonial era, with the Presbyterian Ministers' Fund in Pennsylvania issuing the first such contracts in 1759 to provide ongoing payments to widows and orphans of clergy, marking an early institutional application.^[16] The 19th century saw slower expansion in the U.S. compared to life insurance, but the passage of the Social Security Act in 1935 introduced mandatory old-age annuities, influencing private sector growth by normalizing guaranteed lifetime income as a retirement safeguard.^[17] In the 20th century, annuities became integral to standardized pension systems, particularly after World War II, when employer-sponsored plans proliferated and deposit administration annuities covered a growing share of workers by pooling contributions for deferred payouts.^[18] The 1950s introduced variable annuities to address inflation risks, with the Teachers Insurance and Annuity Association-College Retirement Equities Fund (TIAA-CREF) launching the first in 1952, tying payments to equity investments rather than fixed rates.^[19] A pivotal regulatory milestone occurred in 1974 with the Employee Retirement Income Security Act (ERISA), which imposed federal standards on private pension plans, including annuities, to ensure vesting, funding adequacy, and fiduciary oversight, thereby boosting their adoption in retirement security.^[20]

Classification of Annuities

Payment Timing

Annuities are classified based on the timing of payments relative to each period, primarily into two categories: annuity-immediate and annuity-due.^[21] An annuity-immediate, also known as an ordinary annuity, involves payments made at the end of each period. This structure is common in financial arrangements where the payment follows the accrual of interest or value for that period. For instance, mortgage payments and car loan installments typically follow this model, as the borrower repays at the conclusion of the billing cycle.^[22] In contrast, an annuity-due features payments at the beginning of each period, allowing the recipient to access funds earlier within the cycle. This timing is prevalent in scenarios requiring upfront commitment, such as lease agreements where rent is paid at the start of the month to secure occupancy. Rental contracts often exemplify this approach, ensuring the payer fulfills obligations before the period begins.^[9]^[21] The primary distinction between these types lies in their impact on valuation, particularly present value. Due to the earlier receipt of payments, an annuity-due generally has a higher present value than an equivalent annuity-immediate, as the funds can be invested or utilized sooner, compounding the time value of money advantage.^[23]

Payment Contingency

Payment contingency in annuities refers to the conditions under which payments are made, distinguishing between those that are guaranteed irrespective of external events and those dependent on uncertain outcomes, such as the survival of the annuitant. This classification is fundamental to understanding the risk allocation between the issuer and the recipient, as it determines whether payments proceed as scheduled or cease based on specified contingencies.^[24] Fixed-term annuities, also known as annuities certain, provide payments for a predetermined period, such as 10 or 20 years, regardless of the recipient's survival or other status changes. These annuities ensure that the full schedule of payments is honored even if the annuitant dies before the term ends, with any remaining payments typically directed to a designated beneficiary or estate. This structure offers predictability for short- to medium-term income needs, as the contingency is solely tied to the passage of time rather than life events.^[25]^[26] In contrast, contingent annuities condition payments on the fulfillment of a specific event, most commonly the continued survival of the annuitant, where payments cease upon death. Life-contingent annuities exemplify this type, delivering periodic income only while the annuitant is alive, thereby transferring the risk of outliving resources to the issuer while protecting against premature exhaustion of funds. This dependency introduces variability in the total payout, as the duration remains uncertain.^[24]^[27] Joint and survivor annuities extend contingency to multiple individuals, continuing payments as long as at least one designated life—such as both spouses—remains alive, with provisions often reducing the amount upon the first death. This form is particularly suited for couples seeking shared retirement security, ensuring income persists through the surviving partner's lifetime without reverting to a fixed term. The contingency here balances protection for dual lives against the potential for shorter overall payout durations if both pass early.^[28]^[29] Reversionary annuities incorporate a post-death contingency, where payments commence or continue for a beneficiary only after the primary annuitant's passing, often at a reduced rate to fund the survivor benefit. This arrangement allows the primary annuitant to receive full payments during their lifetime, with the reversion ensuring support for dependents thereafter, though it requires upfront structuring to allocate premiums accordingly.^[30] Contingent annuities, particularly life- and joint-life variants, expose issuers to longevity risk—the possibility that annuitants live longer than anticipated, increasing total payouts beyond projections. This risk underscores the actuarial pricing of such products, where premiums are calibrated to mitigate potential losses from extended lifespans, while beneficiaries gain from the hedge against personal outliving of savings.^[31]^[32]

Payment Variability

Annuities exhibit payment variability through different structures that determine whether payouts remain constant or adjust based on external factors. Fixed annuities provide constant payment amounts over the contract's duration, ensuring predictable income streams for the annuitant. In these contracts, the insurance company guarantees a specified interest rate, crediting earnings to the account value without exposure to market fluctuations, which results in stable periodic payments regardless of economic conditions.^[2]^[33] Variable annuities, in contrast, feature payments that fluctuate based on the performance of underlying investments, such as mutual funds tied to stock indices or other assets. The account value grows or declines with market returns, directly influencing the amount of each payout; for instance, strong equity market performance can increase payments, while downturns may reduce them. This structure allows for potential capital appreciation but introduces investment risk borne primarily by the annuitant.^[2]^[34] Indexed annuities bridge fixed and variable types by linking payments to the performance of a specific index, such as the S&P 500 for equity-indexed variants or the Consumer Price Index (CPI) for inflation-protected ones. In equity-indexed annuities, credits are calculated based on index gains up to a cap, with principal protection against losses, providing partial market exposure without full downside risk. Inflation-indexed annuities, often via cost-of-living riders, adjust payments annually to maintain purchasing power against rising prices, guaranteeing a real rate of return at or above inflation levels as measured by the CPI.^[35]^[36]^[37] The advantages and disadvantages of these variability options reflect their risk-return profiles. Fixed annuities offer stability and principal protection, ideal for risk-averse individuals seeking reliable income without market volatility, though they may yield lower long-term returns compared to equities. Variable annuities provide growth potential through diversified investments, appealing to those tolerant of fluctuations for higher expected payouts, but they carry significant market risk and often higher fees that can erode returns. Indexed annuities balance these by offering upside participation with safeguards—equity-linked ones limit losses while capturing some gains, and inflation-linked ones preserve real value—but they involve complexity, participation caps, and potential opportunity costs during low-index periods.^[38]^[39]^[35] Equity-indexed annuities, introduced around 1995, have experienced significant growth since the mid-1990s, driven by investor demand for equity-like returns with downside protection amid volatile markets. Sales grew rapidly from $4 billion in 1998 to over $27 billion by 2005, reaching a record $125.5 billion in 2024.^[40]^[41]^[42]

Payment Deferral

Annuities are classified based on the timing of payments relative to the premium payment, distinguishing between immediate and deferred types. In an immediate annuity, typically purchased with a single premium, income payments commence no later than one year after the initial investment.^[43] This structure suits individuals seeking prompt income streams, such as retirees needing immediate financial support.^[44] Deferred annuities, by contrast, feature an accumulation phase where premiums are invested before the payout phase begins, often many years later, allowing funds to grow over time.^[43] During this deferral period, the contract holder does not receive payments, enabling the use of the annuity as a long-term savings vehicle to bridge gaps until retirement or other future needs.^[45] Deferred annuities can be fixed or variable: a fixed deferred annuity guarantees a minimum interest rate on the accumulated value, providing stability backed by the insurer, while a variable deferred annuity ties growth to the performance of underlying investment options, such as mutual funds, introducing market risk but potential for higher returns.^[46] These options cater to diverse risk tolerances, with fixed versions appealing to conservative savers and variable to those comfortable with investment fluctuations.^[2] A key characteristic of deferred annuities is the surrender period, a designated timeframe—commonly 5 to 10 years—during which early withdrawals or contract cancellation incur penalties, often as a percentage of the withdrawn amount decreasing over time.^[47] This feature discourages premature access to funds, reinforcing the annuity's role in disciplined, long-term planning, though some contracts offer limited free withdrawals annually to provide flexibility.^[48]

Valuation Techniques

Annuities Certain

Annuities certain refer to financial instruments that provide a fixed series of payments over a predetermined number of periods, without dependence on any contingent events such as the survival of a beneficiary. These annuities are valued using principles of time value of money, discounting future cash flows to their present value or accumulating them to a future value at a specified interest rate. The valuation assumes payments are equal and occur at regular intervals, making them fundamental tools in financial mathematics for non-contingent scenarios.^[9] The present value of an annuity-immediate, where payments are made at the end of each period, is calculated as the sum of the discounted values of each payment. For n periods with payment amount PMT and periodic interest rate r, the formula is: PV = PMT \times \frac{1 - (1 + r)^{-n}}{r} This formula arises from the summation of a finite geometric series. Consider the present value as PV = PMT \cdot v + PMT \cdot v^2 + \cdots + PMT \cdot v^n, where v = \frac{1}{1+r} is the discount factor. Factoring out PMT, this is PMT \cdot v (1 + v + \cdots + v^{n-1}). The sum inside is a geometric series with first term 1 and ratio v, summing to \frac{1 - v^n}{1 - v}. Substituting v yields PV = PMT \cdot \frac{1 - (1 + r)^{-n}}{r}.^[49]^[21] For an annuity-due, where payments occur at the beginning of each period, the present value is obtained by adjusting the immediate annuity value forward by one period: PV_{due} = PV_{immediate} \times (1 + r). This reflects the earlier timing of all payments, effectively increasing the value by the interest factor for one period.^[9] The future value of an annuity-immediate accumulates payments with compound interest to the end of the nth period and is given by: FV_{immediate} = PMT \times \frac{(1 + r)^n - 1}{r} This derives from compounding each payment: the first payment grows for n periods to PMT (1+r)^n, the second for n-1 periods to PMT (1+r)^{n-1}, and so on, forming a geometric series summed similarly to the present value case but with growth factor (1+r). The annuity-due future value is FV_{due} = FV_{immediate} \times (1 + r), accounting for the additional compounding on the initial payment.^[9]^[21] A perpetuity is an annuity certain with infinite periods (n → ∞), where the present value simplifies to PV = \frac{[PMT](/page/PMT)}{[r](/page/r)}, as the geometric series sum approaches 1/(1-v) = 1 + r when the higher-order terms vanish. This formula applies to indefinite payment streams like certain preferred stock dividends, assuming constant r > 0.^[50]^[21] Adjustments for timing distinguish immediate from due annuities as noted, while for variability—such as growing annuities where payments increase at rate g per period—the present value formula modifies to [PV](/page/PV) = [PMT](/page/PMT) \times \frac{1 - \left( \frac{1+g}{1+r} \right)^n}{r - g} for g ≠ r, but remains non-contingent on life events.^[9]

Life Annuities

Life annuities represent a class of annuities where payments are contingent upon the survival of one or more specified individuals, known as annuitants, necessitating the integration of mortality risks into their valuation. Unlike annuities certain, which assume fixed payment durations, life annuities employ actuarial techniques to compute the expected present value (EPV) by discounting future payments for both interest and the probability of survival. This approach relies on life tables that provide survival probabilities based on age, gender, and other demographic factors, ensuring the valuation reflects realistic life expectancies.^[51] The core formula for the EPV of a life annuity payment stream is given by:

\text{EPV} = \sum_{t=1}^{\infty} \text{PMT} \times v^t \times {}_{t}p_{x}

where PMT is the periodic payment, v = 1/(1+r) is the discount factor with interest rate r, and {}_{t}p_{x} denotes the probability that an individual aged x survives for t years. This summation accounts for payments continuing indefinitely, weighted by the likelihood of the annuitant being alive to receive them, and assumes discrete annual payments for simplicity. Key assumptions include a constant interest rate r (often derived from risk-free yields or market rates) and mortality rates from standardized tables, such as the Society of Actuaries' (SOA) 2012 Individual Annuity Mortality (IAM) table.^[52]^[53] A whole life annuity provides level payments at regular intervals for the duration of the annuitant's life, with no predetermined end date beyond survival. Its EPV is computed using the survival probabilities from a life table, typically expressed in actuarial notation as \ddot{a}_{x} for an annuity-due (payments at the beginning of each period), where:

\ddot{a}_{x} = \sum_{k=0}^{\infty} v^k \cdot {}_{k}p_{x}

This formula derives from the life table's l_{x+t}/l_x ratios, where l_y is the number of survivors to age y, enabling computation of {}_{k}p_{x}. Mortality assumptions are drawn from tables like the SOA's 2012 Individual Annuity Reserve (IAR) table, which incorporates projected improvements in longevity for valuation purposes.^[54] Term-certain life annuities, also known as life annuities with period certain, guarantee payments for a minimum fixed term (e.g., 10 or 20 years) regardless of survival, with continuation to the annuitant if they outlive the term. The valuation combines the present value of an annuity certain for the guarantee period with the EPV of subsequent life-contingent payments starting after that period. Formally, for an n-year guarantee:

\ddot{a}_{x:\overline{n}|} = \ddot{a}_{\overline{n}|} + v^n \cdot {}_{n}p_{x} \cdot \ddot{a}_{x+n}

where \ddot{a}_{\overline{n}|} is the value of the certain annuity for n years, and the second term adds the deferred whole life annuity contingent on survival to age x+n. This structure mitigates longevity risk for heirs during the guarantee phase while maintaining life contingency thereafter, using the same interest and mortality assumptions as whole life annuities.^[55] Joint-life annuities extend the contingency to multiple lives, such as a couple, with payments ceasing upon the death of the first or last survivor, depending on the variant. For a joint-life status (payments while both are alive), the EPV incorporates joint survival probabilities {}_{t}p_{xy}, the probability both aged x and y survive t years, often derived from independent mortality assumptions unless dependence is modeled. The value is:

\ddot{a}_{xy} = \sum_{t=0}^{\infty} v^t \cdot {}_{t}p_{xy}

For last-survivor annuities (payments until both have died), it uses {}_{t}\overline{p}_{xy} = {}_{t}p_{x} + {}_{t}p_{y} - {}_{t}p_{xy}. These valuations assume correlated or independent lifespans based on the life table, with interest rates and mortality rates consistent with single-life models, such as those in SOA tables.^[56] Actuarial notation standardizes these computations, with \ddot{a}_{x} denoting the EPV of a whole life annuity-due of 1 per year for life aged x, assuming annual compounding and payments. Valuation hinges on selecting appropriate interest rates (e.g., 3-5% for conservative estimates) and mortality tables like the SOA's 2012 IAR table, which provide age-specific death rates q_x to construct survival functions, updated periodically to reflect demographic trends and medical advances.

Practical Applications

Amortization and Loan Repayments

In the context of loans, amortization refers to the process of paying off debt through a series of regular payments that cover both principal and interest, structured as an annuity where each payment is fixed over the loan term.^[57] This approach ensures the loan balance reaches zero by the end of the term in fully amortizing loans.^[58] The monthly payment for an amortizing loan is calculated using the formula:

PMT = P \times \frac{r(1 + r)^n}{(1 + r)^n - 1}

where P is the principal loan amount, r is the periodic interest rate (e.g., monthly rate), and n is the total number of payments.^[57] This formula derives from the present value of an ordinary annuity, equating the loan amount to the discounted value of future payments.^[57] An amortization schedule details how each payment allocates to interest and principal, with the outstanding balance decreasing progressively.^[59] Interest is calculated on the current balance, so early payments primarily cover interest, while later payments allocate more to principal, accelerating equity buildup for the borrower.^[59] Loans vary in amortization structure: fully amortizing loans repay the full principal through equal installments, whereas interest-only loans require payments covering just interest for an initial period (typically 3-10 years), deferring principal and leading to higher payments upon recasting.^[60] Balloon payment loans amortize over a longer schedule than the term, resulting in a large lump-sum principal payment at maturity.^[58] For example, consider a $100,000 mortgage at 7% annual interest over 30 years (360 monthly payments). The fixed monthly payment is $665.30.^[59] In the first payment, $583.33 goes to interest and $81.97 to principal, leaving a balance of $99,918.03; by the second payment, interest drops to $582.86 and principal rises to $82.44, illustrating gradual equity accumulation as the balance declines.^[59] Refinancing a loan involves recalculating the amortization schedule based on the new interest rate, remaining principal, and adjusted term, often lowering payments if rates have fallen but potentially extending the payoff period.^[61] This recasts the annuity to reflect updated terms, impacting total interest costs and equity buildup.^[61]

Retirement and Insurance Products

Annuities play a central role in retirement planning by allowing individuals to convert accumulated lump sums, such as those from 401(k plans or individual retirement accounts (IRAs), into steady, lifelong income streams that help mitigate the risk of outliving one's savings.^[44] This process transfers investment and longevity risks to the insurance provider, ensuring periodic payments regardless of market performance or lifespan, which is particularly valuable for retirees seeking predictable cash flow to supplement Social Security or pensions.^[62] For example, an immediate annuity purchased at retirement can transform a one-time deposit into monthly payments for life, providing a hedge against the uncertainties of drawdown strategies in defined contribution plans.^[44] In addition to income generation, annuities incorporate insurance features that enhance protection against specific retirement risks, such as market volatility and health-related expenses. Variable annuities often include optional riders like guaranteed minimum withdrawal benefits (GMWBs), which permit annual withdrawals of a fixed percentage (typically 4-6%) of the initial investment or benefit base for life, even if the underlying account value declines to zero due to poor investment returns.^[34] These benefits are backed by the insurer's claims-paying ability and are designed to provide downside protection while allowing upside potential from subaccount investments.^[2] Furthermore, many annuity contracts offer riders for long-term care coverage, enabling policyholders to access a portion of the contract value or death benefit to pay for nursing home or in-home care services without fully surrendering the annuity. A prominent product example is the Qualified Longevity Annuity Contract (QLAC), which allows deferred annuitization of up to $210,000 from qualified retirement accounts under Internal Revenue Service (IRS) rules as of 2025, postponing required minimum distributions (RMDs) until age 85 to optimize tax-deferred growth and later-life income.^[63] QLACs are particularly suited for individuals anticipating longer lifespans, as they provide guaranteed payments starting in advanced age while excluding the QLAC portion from RMD calculations during the deferral period.^[64] Market trends indicate growing adoption of deferred income annuities (DIAs), which align with strategies for delaying Social Security claims to maximize benefits, as these products offer higher payout rates for postponed income starts and complement delayed retirement credits up to age 70.^[65] U.S. annuity sales reached a record $119.3 billion in the third quarter of 2025, with non-variable deferred products like DIAs driving much of the 4% year-over-year increase, reflecting heightened demand for longevity protection amid economic uncertainty.^[66] While annuities offer significant benefits, including robust protection against longevity risk and partial safeguards against inflation through optional riders that adjust payments for cost-of-living increases, they also carry drawbacks such as illiquidity due to surrender charges that can exceed 7-10% in early years and annual fees of 1-3% for riders and management.^[67] Fixed or non-indexed annuities may erode purchasing power over time if inflation outpaces guaranteed rates, though inflation-protected variants mitigate this at the cost of lower initial payouts.^[65] Overall, these features make annuities a balanced yet complex tool for retirement security, best suited for those prioritizing guaranteed income over liquidity.^[44]

Regulatory and Economic Aspects

Legal Frameworks

In the United States, variable annuities are regulated by the Securities and Exchange Commission (SEC) as securities products, requiring registration and disclosure under federal securities laws, while fixed annuities fall under state insurance regulation overseen by individual state insurance commissioners. The National Association of Insurance Commissioners (NAIC) develops model laws and regulations, such as the Annuity Disclosure Model Regulation (#245), which sets standards for disclosing key contract terms to consumers, and the Suitability in Annuity Transactions Model Regulation (#275), which establishes best interest standards for recommendations.^[68] These models are adopted or adapted by states to ensure uniform protections across jurisdictions. In the European Union, the Solvency II Directive provides a harmonized prudential framework for insurance undertakings, including those offering annuities, by requiring insurers to maintain sufficient capital based on risk assessments to protect policyholders.^[69] Complementing this, the Markets in Financial Instruments Directive II (MiFID II) enhances sales transparency for financial products, mandating clear disclosures on costs, risks, and suitability assessments for annuity sales involving investment elements.^[70] Internationally, regulatory approaches vary; in the United Kingdom, The Pensions Regulator (TPR) oversees workplace pension schemes that may incorporate annuities, focusing on funding, governance, and member protections to ensure scheme viability.^[71] In Australia, the Australian Prudential Regulation Authority (APRA) enforces prudential standards for life insurers offering annuities, including capital adequacy requirements tailored to longevity risks, with recent refinements to the framework allowing reduced capital holdings in exchange for robust risk management practices.^[72] Consumer protections are a core element of annuity regulation globally, with suitability rules ensuring recommendations align with individual needs; for instance, the Financial Industry Regulatory Authority (FINRA) in the U.S. applies Regulation Best Interest (Reg BI), which imposes a best interest standard on broker-dealers recommending variable annuities, requiring consideration of costs, risks, and alternatives.^[73] Disclosure requirements mandate clear explanations of fees, including mortality and expense charges, administrative costs, and surrender charges—penalties for early withdrawals that typically decline over 5-10 years, such as starting at 7-10% in the first year.^[47] Similar transparency rules under NAIC models and EU directives prevent misleading sales practices.^[68] Post-2020 regulatory updates have intensified focus on fiduciary standards for annuities, driven by prolonged low-interest environments that challenge product viability and consumer returns; the U.S. Department of Labor's Prohibited Transaction Exemption 2020-02 expanded best interest obligations for retirement advice, including annuities, while all 50 states adopted NAIC's best interest model by 2025, emphasizing care, disclosure, conflict mitigation, and documentation to safeguard retirees.^[74]^[75]

Taxation and Financial Implications

In the United States, non-qualified annuities—those funded with after-tax dollars—employ an exclusion ratio to determine the tax-free portion of payments during the annuitization phase, allowing the return of principal to be excluded from taxable income based on the ratio of investment to expected return.^[33] This ratio is calculated as the taxpayer's investment in the contract divided by the total expected payments, with only the earnings portion taxed as ordinary income once the principal is recovered.^[76] During the accumulation phase, withdrawals from non-qualified annuities follow a last-in, first-out (LIFO) taxation method, where gains are withdrawn and taxed first as ordinary income before any return of principal.^[77] Qualified annuities, funded through pre-tax contributions in retirement plans such as IRAs or 401(ks, benefit from tax-deferred growth, where earnings accumulate without annual taxation until distribution.^[78] However, early withdrawals before age 59½ from these plans incur a 10% additional federal tax penalty on the taxable amount, in addition to ordinary income tax, unless an exception applies such as disability or certain medical expenses.^[79] This penalty aims to discourage premature access to retirement savings. Internationally, tax treatments vary by jurisdiction. In the United Kingdom, individuals can withdraw up to 25% of their pension pot as a tax-free lump sum when purchasing an annuity, capped at a lifetime allowance of £268,275 across all pensions, with the remainder of payments taxed as income.^[80] In Canada, annuity payouts from registered plans are fully taxable as income upon receipt, reflecting deferred taxation, while non-registered annuities feature partial taxation where only the interest or growth portion is included in income, excluding the return of principal.^[81] Annuities play a key economic role in portfolio diversification by providing a stable, guaranteed income stream that hedges against market volatility and longevity risk, complementing volatile assets like stocks.^[82] This diversification enhances retirement security without solely relying on drawdown strategies from accumulated savings.^[83] On a macroeconomic scale, annuities encourage higher national savings rates by offering longevity protection, reducing the fear of outliving one's resources and thereby promoting greater accumulation during working years.^[84] As of 2025, the SECURE 2.0 Act introduces expansions for workplace annuities, including enhanced startup cost credits for small employers adopting plans with annuity options and provisions to facilitate lifetime income features in 403(b plans, aiming to broaden access to annuitized retirement products.^[85]

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Evolution of Annuities: From Ancient Roots to Modern Solutions
1929: Annuities gained popularity after the stock market crashed—when Americans began to view them as safe, reliable alternatives to volatile equity markets.Missing: influences | Show results with:influences
[18]
[PDF] the history of annuities - National Bureau of Economic Research
Murphy (1939) provides a detailed account of the sale of public annuities in England in the 18th and early 19th centuries. Annuities initially were sold to ...
[19]
Variable Annuity: Definition, How It Works, and vs. Fixed Annuity
Oct 18, 2024 · Variable Annuities vs. Variable annuities were introduced in the 1950s as an alternative to fixed annuities, which offer a guaranteed—but often ...
[20]
Employee Retirement Income Security Act (ERISA)
The Employee Retirement Income Security Act of 1974 (ERISA) is a federal law that sets minimum standards for most voluntarily established retirement and ...Retirement · Retirement Plans · Fiduciary Responsibilities · Participant Rights
[21]
[PDF] Chapter 2 Annuities - Financial Mathematics for Actuaries
Consider an annuity with payments of 1 unit each, made at the end of every year for n years. • This kind of annuity is called an annuity-immediate (also ...
[22]
[PDF] Chapter 03 - Basic Annuities
Section 3.1 - Annuity Terminology. Definition: An annuity is intervals of time. Examples: Home Mortgage payments, car loan payments, pension payments.
[23]
[PDF] Types Of Annuities In Math
The primary classifications are based on the timing of payments, the nature of the cash flows, and the duration of the contract. 1. Based on Timing of Payments.
[24]
contingent annuity | Wex | US Law | LII / Legal Information Institute
A contingent annuity is an annuity in which payments depend on the occurrence of a specified condition, such as the survival or death of an individual. They are ...
[25]
Annuity Certain: How It Works and When To Choose One - Gainbridge
Jul 22, 2025 · The annuity contract determines whether you receive distributions for a specific period (annuity certain) or life (life annuity).
[26]
Types of Fixed Annuities Explained - Investopedia
The two main types of fixed annuities are life annuities and term certain annuities. Life annuities pay a predetermined amount each period until the death of ...
[27]
Contingent annuity - Oxford Reference
An annuity in which the payment is conditional on a specified event happening. The most common form is an annuity purchased jointly by a husband and wife ...
[28]
Joint and Survivor Annuity: Key Takeaways - Investopedia
Jul 30, 2024 · A joint and survivor annuity is an insurance policy for couples that continues to make regular payments for as long as either spouse lives.What Is A Joint And Survivor... · Understanding Joint And... · What Are The Advantages Of A...
[29]
What is a joint life annuity | Legal & General
A joint life annuity pays regular income until the first person dies, then it switches to a partner or dependent, with a lower income.How Does Joint Life Annuity... · A Joint Life Annuity Case... · Pros And Cons Of A Single...
[30]
Reversionary Annuities: What They are, How They Work
Reversionary annuity refers to a retirement income strategy that combines an insurance policy with an immediate annuity to provide for a surviving spouse.
[31]
[PDF] Longevity Risk in Annuities and Life Insurance
Sep 30, 2016 · Longevity risk is the risk of loss to the insurer due to policyholders living longer than expected, considered over the lifetime of the ...
[32]
Longevity Risk in Retirement Strategies to Help Create Lifetime ...
Oct 30, 2024 · Annuities are the only way to create protected lifetime income to help address longevity risk. Consider these strategies.
[33]
Publication 575 (2024), Pension and Annuity Income - IRS
An annuity is a series of payments under a contract made at regular intervals over a period of more than 1 full year. They can be either fixed (under which you ...
[34]
[PDF] Variable Annuities: What You Should Know - SEC.gov
A variable annuity has two phases: an accumulation phase and a payout phase. THE ACCUMULATION PHASE. During the accumulation phase, you make purchase payments,.
[35]
The Complicated Risks and Rewards of Indexed Annuities | FINRA.org
Jul 14, 2022 · Indexed annuities expose you to more risk (but more potential return) than a fixed annuity but less risk (and less potential return) than a variable annuity.Missing: inflation CPI
[36]
Inflation-Protected Annuity (IPA): What it Means, How it Works
An inflation-protected annuity (IPA) is an annuity that guarantees a real rate of return at or above inflation.Missing: CPI | Show results with:CPI
[37]
Guide to Annuities: What They Are, Types, and How They Work
A cost-of-living rider will adjust the annual base cash flows for inflation to correspond with changes in the consumer price index (CPI).
[38]
What Is a Fixed Annuity? Uses in Investing, Pros, and Cons
A variable annuity can offer higher investment returns than a fixed annuity, but it can also show lower returns. A variable annuity's asset mix can include ...What Is a Fixed Annuity? · How It Works · Benefits · Fixed vs. Variable Annuities
[39]
Variable Annuities: The Pros and Cons - Investopedia
Pro: They aren't subject to contribution limits. · Pro: The money in them grows tax-deferred. · Pro: Many states protect them from creditors. · Con: They usually ...How Variable Annuities Work · The Advantages · The Disadvantages
[40]
[PDF] indexed annuities - Proposed Rule
Jun 25, 2008 · Beginning in the mid-1990s, the life insurance industry introduced a new type of annuity, referred to as an “equity-indexed annuity,” or, more ...
[41]
SEC Speech: Remarks Before the ALI-ABA Conference on Life ...
Nov 20, 2006 · VII. They were introduced in the mid-1990s, and sales have grown dramatically since then, totaling over $27 billion in 2005. Most equity index ...Missing: history | Show results with:history
[42]
[PDF] Consumer's Guide to Understanding Annuities
This guide should be used primarily to help you make choices when buying an annuity and to help you understand annuities as a source of retirement income.
[43]
[PDF] Annuities in the Context of Defined Contribution Plans
7. However, after retirement the annuity generally provides insurance against investment and longevity risks. • Almost all DC plans offer the option of a lump ...Missing: loans | Show results with:loans
[44]
Retirement income with deferred income annuities | Fidelity
Specifically, deferred income annuities (DIAs) let you lock in a stream of guaranteed income years before retirement, reducing the effect of market volatility ...
[45]
What are the different types of annuities? | III
Fixed vs. variable annuities. In a fixed annuity, the insurance company guarantees the principal and a minimum rate of interest. In other words, as long as ...
[46]
Variable Annuity Surrender Charges - Investor.gov
A surrender charge is a type of sales charge you must pay if you sell or withdraw money from a variable annuity during the surrender period.
[47]
[PDF] Buyer's Guide to Fixed Deferred Annuities
A surrender or withdrawal charge is a charge if you take part or all of the money out of your annuity during a set period of time. The charge is a percentage ...<|separator|>
[48]
Proof of Formula for the Present Value of an Annuity - Duke People
The present value of the second cash flow is the value of $1 discounted back two periods. This is equal to Z2. In general, the present ...
[49]
[PDF] Helping Students Crack Annuity, Perpetuity, Bond, and Stock ...
We start with the derivation of the present value of an ordinary annuity, in which the payments are made at the end of each period, as shown in Figure 1.<|control11|><|separator|>
[50]
[PDF] Annuities, Insurance and Life - Auburn University
At the same price and interest rate, Chris purchases an annuity-immediate with 20 annual payments that begin at amount P and increase by 15 each year thereafter ...
[51]
[PDF] Actuarial Mathematics and Life-Table Statistics - UMD MATH
The verbal intepretation is as before: the future reserve is discounted by the one-year actuarial present value and added to the expected present value of.
[52]
Mortality and Other Rate Tables - SOA
Apr 7, 2011 · Maximum Age: 100. 1958 Commissioners Standard Ordinary (CSO) Mortality – Female. Basis: Age Last Birthday. Minimum Age: 0 Maximum Age: 102.View · Help · Search · Convert
[53]
https://www.soa.org/resources/experience-studies/2011/2012-ind-annuity-reserving-rpt/
[54]
[PDF] Stat 344 Life Contingencies I Chapter 5: Life annuities
This type of life annuity is known as a term annuity-due. Now we'll turn to consider life annuities-immediate, starting with a whole life annuity-immediate.
[55]
[PDF] Multiple Life Models
For joint life status (xy), consider a whole life annuity providing benefits ... The actuarial symbol for this is q1. ∞ xy. It should be obvious this ...
[56]
None
### Amortization Formula and Schedule Summary
[57]
Loan terminology glossary | UCOP
Amortized Loan: A loan to be repaid, by a series of regular installments of principal and interest, that are equal or nearly equal, without any special balloon ...
[58]
[PDF] UNIT 6 – 2 The Mortgage Amortization Schedule
The Mortgage Amortization Schedule. We'll start with our previous example of a $100,000, 30-year, 7% fixed-rate mortgage that requires 360 monthly payments ...
[59]
[PDF] GAO-06-1021 Alternative Mortgage Products
Sep 19, 2006 · Interest-only mortgages allow borrowers to defer principal payments for typically the first 3 to 10 years of the mortgage, before recasting to ...
[60]
§ 1026.20 Disclosure requirements regarding post-consummation ...
2. Amortization payment. Disclosure of the payment needed to amortize fully the outstanding balance at the new interest rate over the remainder of the loan ...Missing: implications | Show results with:implications
[61]
Treasury Issues Guidance to Encourage Annuities in 401(k) Plans
Oct 24, 2014 · Under today's guidance, a target date fund may include annuities allowing payments, beginning either immediately after retirement or at a later ...
[62]
What Is a QLAC? Here's How It Works - Northwestern Mutual
Jan 13, 2025 · In 2023, updates to the SECURE 2.0 tax law changed the QLAC limits. Now, in 2025 you're able to use up to $210,000 from a qualified retirement ...Missing: IRS | Show results with:IRS<|separator|>
[63]
[PDF] Notice 2024-80, 2025 Amounts Relating to Retirement Plans ... - IRS
Effective January 1, 2025, the limitation on the annual benefit under a defined benefit plan under section 415(b)(1)(A) of the Code is increased from $275,000 ...
[64]
Social Security Retirement Benefits and Private Annuities
An annuity can be purchased at retirement or later to increase monthly payments. Income will also be greater for an annuity purchased when interest rates are ...
[65]
Double-Digit Growth in Registered Annuity Products Drives ... - LIMRA
Oct 29, 2025 · WINDSOR, Conn., Oct 29, 2025—Total U.S. annuity sales increased 4% to $119.3 billion in the third quarter of 2025, setting yet another ...
[66]
Investor Tips: Variable Annuities - SEC.gov
Apr 18, 2011 · Variable annuities are not suitable for meeting short-term goals because substantial taxes and insurance company charges may apply if you ...Missing: illiquidity | Show results with:illiquidity<|control11|><|separator|>
[67]
[PDF] MO-245-1 ANNUITY DISCLOSURE MODEL REGULATION ... - NAIC
The purpose of this regulation is to provide standards for the disclosure of certain minimum information about annuity contracts to protect consumers and ...
[68]
Solvency II - EIOPA - European Union
What is Solvency II? Solvency II is the prudential regime for insurance and reinsurance undertakings in the EU. It has entered into force in January 2016.Missing: MiFID | Show results with:MiFID
[69]
MiFID II Explained: Key Regulations and Impact in the EU
The regulation extends oversight to virtually all asset classes and financial professionals in the EU, including off-exchange and over-the-counter trading.
[70]
The Pensions Regulator
We protect the UK's workplace pensions. We make sure employers, trustees, pension specialists and business advisers can fulfil their duties to scheme members.Employers · Contact us · About us · Pension regulation in an era of...Missing: annuities | Show results with:annuities
[71]
APRA refines proposed changes to the capital framework of ...
Oct 29, 2025 · In June 2025, APRA released a consultation inviting industry feedback on proposed changes to the life insurance capital framework. The responses ...
[72]
SEC Regulation Best Interest (Reg BI) | FINRA.org
The SEC's Regulation Best Interest (Reg BI) under the Securities Exchange Act of 1934 establishes a "best interest" standard of conduct for broker-dealers.FINRA Reg BI Resources · Report · SEC staff's most recent FAQs
[73]
Prohibited Transaction Exemption 2020-02, Improving Investment ...
Dec 18, 2020 · This document contains a class exemption from certain prohibited transaction restrictions of the Employee Retirement Income Security Act of 1974, as amended.
[74]
All 50 States Now on Board with NAIC Best Interest Annuity Rule
Apr 21, 2025 · Back in February 2020, the NAIC adopted a best-interest standard requiring four obligations: care, disclosure, conflict of interest and ...
[75]
Publication 939 (12/2024), General Rule for Pensions and Annuities
The exclusion ratio is 10.8%, and your monthly exclusion is $90. After 5 years (60 months), you have recovered tax free only $5,400 ($90 x 60). An itemized ...Publication 939... · Publication 939 - Main... · Special Elections
[76]
Are Annuities Taxable? Understanding Tax Implications & Strategy
When an annuity contract is not annuitized, the taxability of withdrawals is calculated using a Last In, First Out (LIFO) standard. All earnings are considered ...
[77]
Annuities and taxes - Ameriprise Financial
Annuity withdrawals made before you reach age 59½ are typically subject to a 10% early withdrawal penalty tax. For early withdrawals from a pre-tax qualified ...
[78]
Topic no. 558, Additional tax on early distributions from retirement ...
Oct 8, 2025 · The law imposes a 10% additional tax on certain early distributions from certain retirement plans.
[79]
Tax-free pension lump sum allowances - MoneyHelper
You can usually take up to 25% from each of your pensions as tax-free lump sums, provided the total is less than £268,275. We explain the lump sum allowance ...
[80]
Income Tax Folio S2-F1-C3, Pension Benefits - Canada.ca
Feb 8, 2024 · This Chapter discusses the income tax treatment of amounts received from a pension plan. It considers Canadian and foreign plans, as well as registered and ...
[81]
[PDF] Annuities and Individual Welfare - MIT Economics
Thus, an annuity can be a better substitute than a bond for long-term-care insurance. These results imply that annuities are quite valuable to utility ...Missing: loans | Show results with:loans
[82]
[PDF] THE ROLE OF ANNUITIES IN YOUR RETIREMENT PORTFOLIO
Annuities provide guaranteed income, are cost-effective, and can fill gaps in income, improving retirement security. Saving is not enough to guarantee ...
[83]
[PDF] The Role of Real Annuities and Indexed Bonds in an Individual ...
The current U.S. social security system provides retirees with a real annu- ity during their retirement years. After a worker's primary insurance.
[84]
Publication 571 (01/2025), Tax-Sheltered Annuity Plans (403(b ... - IRS
This publication can help you better understand the tax rules that apply to your 403(b) (tax-sheltered annuity) plan.