🎯 In 30 seconds: An annuity is a contract with an insurance company. You pay money in, and the insurer promises growth, income for life, or both. The simple kinds can turn savings into a paycheck you cannot outlive. The complex kinds stack fees, caps and surrender charges that lock your money up for years. Know which kind you are looking at, what it costs in total and how you get out.
Two questions sort every annuity
| Fixed | Indexed | Variable | |
|---|---|---|---|
| Immediate (income starts now) | Common: a lump sum buys a set monthly income, often for life | Rare | Rare |
| Deferred (grows first, pays later) | A guaranteed rate for a set period, much like a CD from an insurer | Return linked to an index, with a floor and a limit on gains | Invested in subaccounts (similar to mutual funds); can lose money |
All annuities are regulated by state insurance commissioners. Variable annuities and registered index-linked annuities are securities too, so the SEC and FINRA also oversee them, and a prospectus is required.
Immediate annuities: a paycheck for life
Example with a made-up payout: Ruth, 67, hands an insurer $100,000 and gets $600 a month for life. Payout rates change with interest rates and depend on age, sex and options chosen, so get real quotes.
| Yearly income | $7,200 |
| Months to get her $100,000 back | About 139, close to 11 years 7 months |
| If she lives past that | Payments keep coming; the insurer pools the risk across many buyers |
| If she dies early (life-only option) | Payments stop; options that guarantee a minimum period pay less each month |
| What $600 buys after 20 years of 3% inflation | About what $332 buys today, unless she paid for an inflation rider |
Part of each payment is your own money coming back, so the payout rate is not the same as an interest rate. Many retirees use this kind to cover essential bills alongside Social Security. See Turning savings into a retirement paycheck.
Indexed annuities: caps, participation and buffers
An indexed annuity credits interest based on a market index, but with limits both ways. Suppose a contract has an 8% cap, an 80% participation rate and a 0% floor:
| Index change for the year | Math | Credited |
|---|---|---|
| +12% | 80% of 12% = 9.6%, capped at 8% | +8% |
| +5% | 80% of 5% | +4% |
| −15% | Floor applies | 0% |
The index is usually measured by price only, so the dividends stock owners get are often left out. Insurers can usually reset caps and rates each year. Registered index-linked annuities (RILAs) trade the 0% floor for higher caps: with a 10% buffer, a 22% index drop costs you 12%; with a 10% floor, a 30% drop costs you 10%.
Variable annuities: fees stack up
- Mortality and expense charge: the SEC has described it as often around 1.25% a year.
- Subaccount fund expenses, on top.
- Riders such as guaranteed income or death benefits, each with its own yearly fee.
- Surrender charges on early withdrawals.
Add them up: total yearly costs can exceed 2% before any fund returns. Compare that with the fees page.
Surrender charges and getting out
Most deferred annuities charge you for taking money out in the early years. FINRA notes variable annuity surrender periods of eight years or more. Example schedule: 7% in year 1, falling one point a year to zero after year 7.
| Withdraw $50,000 in year 2 | 6% charge = $3,000 |
| Withdraw in year 8 | No charge |
Many contracts let you take out a portion each year without a charge; check yours. Moving to a new annuity through a tax-free 1035 exchange usually starts a new surrender period, which is why some sellers push exchanges. Every contract has a free-look period, set by your state and generally 10 to 30 days, during which you can cancel without a surrender charge.
Taxes and safety
- Growth is tax-deferred. Gains come out taxed as ordinary income, not at capital gains rates.
- Withdrawals before 59½ may add a 10% additional tax.
- Buying an annuity inside an IRA or 401(k) adds no extra tax benefit.
- For 2026 you can use up to $210,000 of IRA or 401(k) money to buy a qualifying longevity annuity contract (QLAC). It starts paying at a later age, and the money in it is left out of required minimum distributions until then.
- Annuities are not FDIC or SIPC insured. If an insurer fails, a state guaranty association may cover part of the value, up to limits that vary by state. Check the insurer’s financial strength ratings.
Questions to ask before signing
- What type is this: immediate or deferred; fixed, indexed or variable?
- What is the total yearly cost, including every rider?
- What is the surrender schedule, and how much can I take out each year free?
- For indexed: what are the cap, participation rate and floor or buffer, and can you change them?
- How are you paid on this sale, and how much?
- If this replaces an annuity I own, what charges and benefits do I lose?
- Is the seller on FINRA BrokerCheck or licensed with my state insurance department?
- Ruth gets $600 a month from $100,000. About how long until she has received her money back? Answer: About 139 months, roughly 11.6 years.
- Index rises 12%; cap 8%, participation 80%. What is credited? Answer: 8%; 9.6% would exceed the cap.
- What usually happens to the surrender clock in a 1035 exchange? Answer: A new surrender period starts.
- What is the 2026 QLAC limit? Answer: $210,000.