Variable Annuity - Part 1

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Define Variable Annuity

  • A variable annuity is a contract between policyholder and an insurance company under which the insurer agrees to make periodic payments to you, beginning either immediately or at some future date.
  • You purchase a variable annuity contract by making either a single purchase payment or a series of purchase payments.
  • A variable annuity offers a range of investment options. The value of your investment as a variable annuity owner will vary depending on the performance of the investment options you choose. The investment options for a variable annuity are typically mutual funds that invest in stocks, bonds, money market instruments, or some combination of the three

How It is Different from Mutual Funds

  • Payment till Lifetime: Variable annuities let you receive periodic payments for the rest of your life (or the life of your spouse or any other person you designate). This feature offers protection against the possibility that, after you retire, you will outlive your assets.

  • Death benefit before Vesting: Variable annuities have a death benefit. If you die before the insurer has started making payments to you, your beneficiary is guaranteed to receive a specified amount—typically at least the amount of your purchase payments. Your beneficiary will get a benefit from this feature if, at the time of your death, your account value (value of your fund) is less than the guaranteed amount.

  • Tax-Deferral: Variable annuities are tax-deferred. That means you pay no taxes on the income and investment gains from your annuity until you withdraw your money. You may also transfer your money from one investment option to another within a variable annuity without paying tax at the time of the transfer. When you take your money out of a variable annuity, however, you will be taxed on the earnings at ordinary income tax rates rather than lower capital gains rates.
    • In general, the benefits of tax deferral will outweigh the costs of a variable annuity only if you hold it as a long-term investment to meet retirement and other long-range goals.



𝐒𝐮𝐛𝐬𝐜𝐫𝐢𝐛𝐞 𝐭𝐨 𝐦𝐲 𝐘𝐨𝐮𝐓𝐮𝐛𝐞 𝐂𝐡𝐚𝐧𝐧𝐞𝐥 𝐭𝐨 𝐥𝐞𝐚𝐫𝐧 𝐏𝐲𝐭𝐡𝐨𝐧 𝐚𝐧𝐝 𝐒𝐐𝐋 𝐟𝐨𝐫 𝐀𝐜𝐭𝐮𝐚𝐫𝐢𝐞𝐬
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How does Variable Annuity Work

A variable annuity has two phases: an Accumulation phase and a payout phase. 

Accumulation Phase

  • During the accumulation phase, you make purchase payments, which you can allocate to a number of investment options. For example, you could designate 40% of your purchase payments to a bond fund, 40% to a U.S. stock fund, and 20% to an international stock fund. The money you have allocated to each mutual fund investment option will increase or decrease over time, depending on the fund’s performance

  • In addition, variable annuities often allow you to allocate part of your purchase payments to a fixed account. A fixed account, unlike a mutual fund, pays a fixed rate of interest. The insurance company may reset this interest rate periodically, but it will usually provide a guaranteed minimum.

  • During the accumulation phase, you can typically transfer your money from one investment option to another without paying tax on your investment income and gains, although you may be charged by the insurance company for transfers.

  • However, if you withdraw money from your account during the early years of the accumulation phase, you may have to pay “surrender charges,” which will be discussed later on. 

  • In addition, you may have to pay a 10% federal tax penalty if you withdraw money before the age of 59½. 

    • Example: You purchase a variable annuity with an initial purchase payment of $10,000. You allocate 50% of that purchase payment ($5,000) to a bond fund, and 50% ($5,000) to a stock fund. Over the following year, the stock fund has a 10% return, and the bond fund has a 5% return. At the end of the year, your account has a value of $10,750 ($5,500 in the stock fund and $5,250 in the bond fund), minus fees and charges

Payout Phase

  • At the beginning of the payout phase, you may receive your purchase payments plus investment income and gains (if any) as a lump-sum payment, or you may choose to receive them as a stream of payments at regular intervals (generally monthly).

  • If you choose to receive a stream of payments, you may have a number of choices of how long the payments will last.

    • Under most annuity contracts, you can choose to have your annuity payments last for a period that you set (such as 20 years) or for an indefinite period (such as your lifetime or the lifetime of you and your spouse or other beneficiary).

  • During the payout phase, your annuity contract may permit you to choose between receiving payments that are fixed in amount or payments that vary based on the performance of the mutual fund investment options.

    • The amount of each periodic payment will depend, in part, on the time period that you select for receiving payments.

  • Be aware that some annuities do not allow you to withdraw money from your account once you have started receiving regular annuity payments. 

    • In addition, some annuity contracts are structured as immediate annuities, which means that there is no accumulation phase and you will start receiving annuity payments right after you purchase the annuity.

I will cover other features of Variable annuity in upcoming articles such as:
  1. Death Benefit concept
  2. Charges under Variable Annuity (VA)
  3. Different types of Guarantees (GMB's - Guaranteed Minimum Benefit)

𝐒𝐮𝐛𝐬𝐜𝐫𝐢𝐛𝐞 𝐭𝐨 𝐦𝐲 𝐘𝐨𝐮𝐓𝐮𝐛𝐞 𝐂𝐡𝐚𝐧𝐧𝐞𝐥 𝐭𝐨 𝐥𝐞𝐚𝐫𝐧 𝐏𝐲𝐭𝐡𝐨𝐧 𝐚𝐧𝐝 𝐒𝐐𝐋 𝐟𝐨𝐫 𝐀𝐜𝐭𝐮𝐚𝐫𝐢𝐞𝐬

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