How Does a Guaranteed Annuity Work?

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How Does a Guaranteed Annuity Work?
How Does a Guaranteed Annuity Work? (Image: taxdeferredmoney.com, pcrmission.org, www.axa-equitable.com)

Understanding an Annuity

An annuity is a legal policy program that is provided to consumers by an insurance company. The annuity allows subscribers to apportion their funds on a yearly basis as it earns interest with a guaranteed interest rate. The annuity is also tax-deferred for a set amount of time. Because of the tax and security benefits and the guaranteed income, annuity policies are very popular with many consumers. When it is time for retirement, an annuity provides a guaranteed flow of income for many consumers. The income amount is precise and the time frame to receive the guaranteed income ranges from a particular set time to even a lifetime of income for many. There are two categories of annuities. These include the variable and the fixed annuity. A fixed annuity allows consumers to have a guarantee of income which includes principal and interest.

Function

A guaranteed annuity is an annuity that guarantees that a subscriber will receive payments for a designated period of time. If the annuitant is still alive after the designated period ends, payments continue to be made to the annuitant. In order to earn a guaranteed annuity rate, the policy holder is required to keep and hold the annuity contract until the conclusion of the guaranteed period. There is also a guaranteed annuity referred to as a modified guaranteed annuity. A modified guaranteed annuity provides a specific amount of income for a designated guaranteed period. The elected guaranteed period can be five, seven or even for 10 years. However, a modified guaranteed annuity can be affected by market conditions. If a consumer were to decide to withdraw her funds early, the contract value may or may not be as valuable as the original procured payment due to fluctuations in the market. However, in some cases, the value may be even more than what was originally paid. Sometimes charges are applied with the early withdrawal of funds as well. An early withdrawal of funds can also result in an additional transaction referred to as a market value adjustment. A market value adjustment (MVA) is the difference between the guaranteed rate and what the current interest rates are. If a market value adjustment is applied, the result will be either an increase or decrease to your withdrawn funds or contract worth. With a guaranteed annuity, your income earnings are not taxed until they are withdrawn. Generally, this is when you are ready to retire. The withdrawn earnings are taxed with a common income tax rate to the degree of gain. A 10 percent federal income tax penalty may occur, however, if the funds are withdrawn before the age of 59 and 1/2. Subscribers can choose various payout options. They can even opt for a lifetime income payout. Because an annuity policy contract is comprised of limitations, exclusions, and reductions of terms and benefits, it is vital to consult with your licensed annuity professional to obtain a full and clear understanding of the policy and how it works.

Saving for retirement
Saving for retirement

Beneficiaries

When a subscriber of a guaranteed annuity policy dies after payments are being made and before the designated period or installment refund period ends, all future payments are paid to the beneficiary of the policy holder.

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