Different types of Annuities

It’s important to secure your future in today’s volatile world. Annuity plans can be a suitable option to ensure financial security. An annuity plan is an agreement with an insurance company where you invest a lump sum or regular payments and receive regular payouts in return. You usually get the instalments monthly and often throughout your life. This blog explains different types of annuities.

Purpose of annuity plans

The purpose of annuities is to increase the retirement income of the buyer or supplement it. It enables you to have a steady stream of money post-retirement and live without any burden or financial struggles at a later stage in life.

In addition to securing your future, an annuity also helps to protect and support your family in emergencies. With a good insurance annuity plan, you can ensure that your partner and dependants continue to receive periodic income even after you are gone.

Different types of annuity plans

Different types of annuity plans are categorised depending on the time of payout and their amounts.

Let’s go through the various types of annuities in India and what they offer:
 

1. Immediate annuity

In an immediate life annuity plan, the premium is paid by the buyer in one lump sum as opposed to periodic instalments. With an immediate annuity plan, an individual can receive guaranteed¹ and instant payouts (for a limited period or lifetime) as soon as they deposit the premium with the insurance company. This type of annuity is suitable for those who are about to retire and need a recurring income every month with immediate effect. There is no accumulation period in an immediate annuity, and the plan is activated immediately after the vesting phase.
 

2. Deferred annuity

As opposed to immediate annuity plan, a deferred annuity begins after a certain date. It consists of an accumulation phase and a vesting phase. During the accumulation phase, an individual starts building a corpus from the date of the premium payment. However, the payout doesn’t start right away. It is in the vesting phase that the individual begins receiving a payout in the form of a pension. A deferred annuity can also be viewed as a pension plan where the buyer is permitted to buy out the annuity with the money accumulated as per the applicable conditions. It can suit those who do not require immediate payouts and can allow the accumulated money to grow to enjoy larger payments later.
 

3. Fixed annuity

A fixed annuity plan entails a fixed initial investment based on a set interest rate and payout period. It provides an individual with a guaranteed¹ sum of money post-retirement without any change till the end of the plan. In a fixed annuity, the buyer’s money is mainly invested in safe, fixed-income instruments. The insurance company assures an unchanged payout based on the sum invested. Risk-averse investors who prefer traditional investments may opt for this plan.
 

4. Variable annuity

Unlike a fixed annuity, a variable annuity plan does not commit a fixed payout to the individual. The insurance company invests the initial corpus of the buyer into sub-accounts or a portfolio of mutual funds that the buyer chooses. The payouts are linked to the performance of the funds and can either vary or remain fixed throughout the plan. The payment is usually uneven in a variable annuity plan, making it more suitable for investors with a high risk appetite. One common example of a variable annuity is the NPS, which is also market-linked² and doesn’t guarantee fixed payouts, unlike other government offerings.
 

How do different types of annuities work?

Depending on customisations offered by the insurance company, annuity plans can further be divided into various categories. Here are the different types of annuities explained.

1. Lump-sum annuity

Many annuity plans provide regular payments from a lump-sum investment, but a lump-sum annuity allows you to receive the entire amount at once. However, a lump-sum annuity can be looked at as an alternative and is only accessible after a stipulated period. It may also be subject to other conditions as stated by the insurance company. However, you must note that the complete retirement benefit may not be available to the individual as a lump-sum annuity amount.

2. Life annuity

In this type of annuity plan, the individual receives annuity payments either monthly, quarterly, or yearly till he or she is alive. The annuity payout ceases on the death of the policyholder.

3. Life annuity with return of purchase price³

This annuity plan guarantees payouts to the buyer throughout his/her life. After his/her death, the initial amount paid to purchase the annuity is paid to his nominee.

4. Annuity payable for a pre-decided term

This type of annuity is only payable for a guaranteed period, i.e., 5 years, 10 years, or more. The payouts are made throughout the designated term, even if the buyer passes away. The payments cease on the completion of the pre-decided term.

5. Indexed annuity

In the case of an indexed annuity plan, the annuity payout increases each year to incorporate inflation. Although it is not linked to the actual inflation rate, it enables the buyer to cover an increase in expenses by some margin.

6. Joint life survivor annuity

This type of annuity covers you and your spouse. The payouts continue till either you or your spouse is alive. If both of you pass away, the annuity plan may entitle the nominee to receive the purchase price, i.e., the initial amount invested to buy the annuity plan, excluding the instalments paid prior to death.

Although the purpose of all types of annuities is more or less the same, their mode of operation differs to a certain extent. While a fixed annuity can suit for conservative investors, a variable annuity is suitable for those with a risk appetite. Similarly, an immediate annuity can suit individuals nearing retirement. Whereas, a deferred annuity is suitable for investors who can invest the funds for a longer period. Regardless of the type of plan, an annuity can secure one’s financial future.

Key advantages and disadvantages of annuity plans

The following table highlights the advantages and disadvantages of annuity plans.

Tax⁴ advantages of investing in annuities

• 0% GST on premiums paid for individual annuity/retirement plans
• Premium payment: You can claim tax deductions up to ₹1.5 Lakh under Section 80 C of the Income Tax Act.
• Annuity payouts: These are considered as income from other sources and are generally taxable as per your applicable tax slab.