Deferred Annuity Buyout
Most Americans aren’t able to participate in defined benefit plans such as pensions. While still in use for government and municipal agencies, they are exceedingly rare in the private sector as employers shift the retirement responsibility on the employees.
Deferred annuities attempt to address that need by providing a steady, pre-determined income stream during retirement. Deferred annuities are sometimes known as a personal pension plan because they are scheduled to begin making payments at some point in the future, often upon entering retirement. This makes sense because a pension is, by definition, an annuity.
What is a Deferred Annuity?
A deferred annuity is a contract between you and an insurer where you pay a premium in exchange for payments to be received at some future date. Those future payments can last for a fixed period of time or your lifetime, the life of your spouse and possibly your heirs. They can also be a future single payout.
Deferred annuities are a relatively new concept, but they have become remarkably popular as working Americans rush to make sure they have enough savings during their retirement years. A saver purchases a deferred annuity by making either one large, single premium payment, or multiple payments.
The investment grows tax-deferred during the accumulation stage, the period of time between the initial premium payment and when the payout or ‘annuitization’ begins. Accumulation time periods vary but typically they are quoted in 10 or 20 year periods.
As an example:
A 55-year old male pays a lump sum (a.k.a. single premium) of $200,000 to an insurance company in return for a future stream of monthly payments in the amount of $1,750 beginning at age 65 (10 years in the future).
Types of Deferred Annuities
There are three main types of deferred annuities, fixed, fixed indexed and variable annuities.
Fixed Annuities
Fixed annuities generally invest the premiums paid into low-risk investments, similar to a bank certificate of deposit or CD. They are lower risk and are often purchased by investors nearing, or in, retirement. Fixed annuities typically provide principal protection with a fixed rate of return.
One problem is that if the annuitant dies before they can receive the total value of the annuity, the remainder typically goes to the insurance company. The two main kinds of fixed annuities are life annuities and term certain annuity.
Fixed Indexed Annuities
The performance of the premiums paid into a fixed indexed annuity track some index such as the S&P 500 or NASDAQ 100. They usually have a guaranteed minimum rate of return, known as the floor.
Variable Annuities
Variable annuities are tax deferred annuities whose value can fluctuate depending on the performance of the sub-accounts the premiums are invested in. There may be a guaranteed rate of return, depending on whether that rider was also purchased.
Sell My Deferred Annuity Payments
As long as your annuity is transferable, you should be able to sell deferred annuity payments to a secondary market buyer. You may be able to transfer your deferred annuity to an immediate annuity and then begin selling payments to a third party buyer. This is also known as an annuity buyout.
The lump sum you receive for your annuity payments will depend on several factors including the period of time until the scheduled payments begin (annuitization). The longer the annuity buyer has to wait for the scheduled payments to begin
Any gains on interest or earnings in the annuity are taxed as ordinary income, not capital gains. A gain is determined as the difference between the initial cost basis (the amount invested in the annuity) and the sale value. It is important to remember the contributions are not taxable upon withdrawal, only the gains.
While the majority of annuities can be sold into the secondary market, there are some annuities that may not be sold. The first type is immediate ‘life only’ annuities. This is because the payout is not guaranteed for a fixed amount of time. Consequently, the annuity buyer really has no way to determine the present value the future annuity payments, since there’s no way to know how long the payments will last (i.e. how long the old owner will live). It’s worth speaking with a funding company about potential options including an annuity buyout.
Also, annuities held in a 401(k), 403(b) and IRAs are prohibited from being sold to a secondary market buyer or funding company.
Deferred Annuity Pros
- If transferable, you should be able to sell a deferred annuity early.
- Can transfer longevity risk by establishing a ‘personal pension’.
- Like all annuities, income grows tax deferred until it is withdrawn.
- In a fixed annuity, principal may be guaranteed
Deferred Annuity Cons
- Your money is locked up waiting for the income stage unless you want to pay an early withdrawal penalty, surrender fees and possibly taxes.
- A lot of factors in your life can change between the time you bought your annuity and when you start receiving future payments.
- Not guaranteed by the FDIC or any government agency. Annuity payments are subject to the ability of the insurer to make payments.
- Insurance company usually has the right to change the terms of contract on an annual basis.