Immediate Vs. Deferred Annuities

Annuities are financial products, usually offered by insurance companies in which the annuity holder pays an amount of money to the company offering the annuities, which in turns invests the amount and guarantees the annuity holder a stream of income for the rest of his life, or up to an agreed annuity expiry date. The amount of the income from the annuity could be fixed (as in the case of fixed rate annuities) or dependent on the performance of the investment underlying the annuity (as in the case of variable annuities).

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Annuities are also classified as either immediate or deferred. In the case of immediate annuities, the annuity holder pays a lump-sum payment covering the whole value of the annuity to the company offering the annuities at a go. Consequently, the annuity holder starts drawing an income from the annuity immediately or at least within a year of purchasing the annuity. In the case of a deferred annuity, the annuity holder pays smaller (rather than a lump-sum) payments to the annuity offering company until he has covered for the whole value of the annuity, upon which he starts drawing an income from the annuity.

Both immediate and deferred annuities have their unique upside and downside.

The main advantage underlying an immediate annuity is the fact that the annuity holder starts to enjoy the earnings from his investment immediately. This is particularly attractive to prospective annuity-holders who opt to invest their retirement benefits and other savings in annuities, with the expectation of replacing the incomes they were previous earning with the income from their annuities. In this case then, the replacement is immediate. The downside to the immediate annuity is that it does not offer the annuity holder opting for it the benefit of tax-deferment available to annuity holders who opt for the deferred annuities.

On the other hand, the main advantage of the deferred annuity option is the ease of payment, seeing that in a deferred annuity, the annuity holder gets the annuity through the payment of small and manageable payments until they cover the full value of the annuity, after which they start earning an income from it. And what is more, deferred annuities are not taxed during their deferral phase, that is, as long as the annuity holder is building the annuity by making contributions to it. This translates to tax deferment benefits. The downside to deferred annuities is the fact that their income is also deferred, meaning that one has to wait until they have made the full payment for the annuity before they can start enjoying the full fruits of their investment.

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