Annuity Definition

True Tamplin

Written by True Tamplin, BSc, CEPF®
Updated on January 11, 2021

Annuity Definition

To define annuity, it is a financial product offered by insurance companies designed to pay a stream of income in the future, usually after retirement. 

Annuities are one of many financial products designed to offer an income to retirees, including IRAs, 401(k)s, pensions and social security. 

What is Annuity?

The purpose of an annuity is to allow individuals to secure a steady cash flow after retirement. 

The individual funds the annuity with either a lump sum or periodic payments, and the annuity provides a stream of income for either a designated period of time or the remainder of the annuitant’s life. 

Types of Annuities Explained

Different types of annuities offer different advantages and disadvantages. The three main types of annuities are:

Fixed annuities pay out a fixed amount. 

This is the safest of the three annuities, but the returns tend to be modest.

Variable annuities offer a variable return on investment based on the performance of the annuity’s underlying portfolio.

Variable annuities can offer the highest return, but also carry the greatest risk. 

Indexed annuities fall somewhere in the middle in terms of risk and reward. 

They offer a guaranteed minimum payment, but part of the payout is tied to the performance of an index, such as the S&P 500.

Annuity payouts may begin distributing income immediately after the annuitant puts down their initial lump sum payment, or they may be deferred to allow the principal to grow before the annuitant specifies a time or age at which the payments will begin. 

Financial professionals often recommend avoiding annuities because of hefty fees, lack of liquidity, and overall complexity. 

It is recommended to consult a financial advisor as an investment vehicle. 

Annuities FAQs

An annuity is a financial product offered by insurance companies designed to pay a stream of income in the future, usually after retirement.
The 3 main types of annuities are: fixed annuities, variable annuities, and indexed annuities.
Fixed annuities are the safest of the 3 types of annuities, however the returns tend to be modest.
Financial professionals often recommend avoiding annuities because of hefty fees, lack of liquidity, and overall complexity.