Understanding the Basics of an Annuity Policy

Not everybody can be as savvy in understanding legal jargons as well as lawyers do. But with a keen eye for details and willingness to comprehend all that is stated on your annuity policy, you might just be able to save yourself money from hiring a lawyer to understand your contract and in being trapped to an annuity that is totally far beyond your expectations.

First things first—you have to know the various annuity options available to you. There are five major categories which can be classified according to nature of investment, chief purpose of payouts, and type of payout commitments, tax status, and payment arrangements of premiums.

Basically, if it is a fixed annuity policy, the chosen financial company will guarantee the principal amount of investment together with the minimum rate of interest. They are regulated by state insurance departments.

For variable annuities, your money is invested in a scheme similar to a mutual fund. The value of your investment and the amount of payouts are determined on how well the performance of the fund is. Aside from the state insurance departments, it is also regulated by the Federal Securities and Exchange Commissions.

If the annuity policy is deferred, it means that investment premiums will be received at a later time. As opposed to an immediate annuity, an income is received right after it is bought, depending on the payout frequency you have agreed to.

When your annuity policy says fixed period, it means that payout will be received in a precise period of time. If it says 10 or 5 years, then you will be receiving the regular payouts for that duration. On the other hand lifetime annuities, as the name suggests, is dependent of the lifetime of the annuitant—in some cases annuitants as annuity policies can be based on two policy holders. It is called a 'two-life annuity'. A lifetime annuity which refers to only one annuitant is a 'pure' lifetime annuity.

With regard to qualified versus nonqualified annuities, this refers to the tax status of the invested money. For qualified annuities, it means that the premiums paid are not included for the taxable income in the year it was paid in. For nonqualified annuities, since they are tax deferred, they will only be taxable like normal income once they are withdrawn.

If asked to choose between a single premium and flexible premium annuities, decide which payout arrangement will best suit your lifestyle and interests. For single premiums, you have two options: single premium deferred annuity which meant one time payment for long term investments; and single premium immediate annuity which means it is a one time payment for short term investments.

Since, an annuity policy is a legally binding contract; you have to go through the details of the terms stated in it before you agreed to it. After all, putting your money in which the annuity basket might be the financial investment you have long been waiting for.