Definition of 'Annuity'
An annuity is a form of insurance most often purchased as an investment and offered by life insurance companies and investment companies that accepts funds, grows those funds, and, at a certain point, pays out those funds to an individual in a predetermined series or set of amounts—usually in retirement.
TheStreet Explains ‘Annuity’
With deferred annuities, as the annuity grows, it is in the accumulation phase; once payments from the annuity begin, it is in the annuitization phase. Deferred annuities are structured to offer a secure cash flow to an individual in retirement, say, and, in that way, help individuals mitigate what’s sometimes called longevity risk—or the risk of living longer than you can afford to. Notably, Social Security and pensions are kinds of annuities; money paid into them continues to grow until a pre-determined date, when portions of that money are released to the payee (sometimes called the annuitant) each month, or instance. Lottery winnings can also be annuities. Winners who choose against a lump sum payment may agree, instead, to receive fixed amounts of money each year—i.e., $1 million per year for the first five years, $1.3 million per year for the next five years, and so on until the winnings are exhausted. Large cash settlements derived from a lawsuit may also be structured as an annuity.
As the above examples suggest, the annuitization phase can include fixed annual payments (such as Social Security) or variable annual payments (such as lottery winnings). One of the reasons annuities are reliable is because they come with stiff penalties if the money is touched in the accumulation phase (known as the surrender period). The penalty acts as a deterrent and, as such, helps guarantee that the annuity works as it should for the annuitant.
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