Annuitizing is the process of establishing a stream of regular income payments from an annuity. You convert your savings from assets that hopefully grow (either by making new additions to the account or letting the earnings build up) to something that provides income.
But annuitization is different from simply making a withdrawal. When you annuitize, you set up a systematic payment plan that might include lifetime income guarantees. The decision is typically irrevocable—it may be difficult or impossible to reverse this process.
Here's what you need to know about annuitization.
- Annuitizing is the process of establishing a stream of regular income payments from an annuity.
- You have a few options; common ones are lifetime payments, life with period certain, joint and last survivor, and period certain.
- Annuitizing is typically a permanent decision. Once you make a choice, it may be difficult or impossible to go back.
What Happens When You Annuitize?
When you annuitize, you tell the insurance company to start paying you, often by submitting an agreement. During that process, you decide exactly how you’d like to structure the payments. Your options could include fixed amounts, a fixed period, and a death benefit. You might have the option to choose from several programs, and you should read your annuity contracts carefully to decide which option is best for you.
For example, assume you’re a 65-year-old woman, and you have $100,000 of savings. If you buy an annuity and annuitize, the insurance company might pay you $443 per month (or $5,316 per year) for the rest of your life. That amounts to a 5.3% starting withdrawal rate. But your number may be different, depending on some of the options described below.
The simplest option for annuitization is a straight lifetime payment. With this option, the insurance company continues to make payments for as long as you live (technically they last until the annuitant dies—the annuitant might be the same person as the annuity owner, but that’s not always the case). That could happen one year after annuitizing, or many years later.
Generally, the longer the annuitant lives, the better this option works out. If the annuitant dies shortly after annuitization, there is no refund of your principal under a basic lifetime payment option.
Life With Period Certain
To guard against the risk of forfeiting all of your money when somebody dies soon after starting a lifetime payment option, you can add a "period certain." With this option, the insurance company makes payments for either the life of the annuitant or the period that you choose—whichever is longer.
For example, you might use a 10-year period certain. In that case, payments continue for at least 10 years, regardless of when the annuitant dies. Also, payments will continue for as long as the annuitant is alive, even if that is much longer than 10 years. Because you are reducing your risk of financial loss due to an early death, your monthly (or annual) payments should be smaller if you use a period certain (when compared to a straight lifetime payment).
Joint and Last Survivor
Some annuity owners want to provide income not just for themselves, but also for somebody else (such as a spouse). A joint and last survivor payment option will provide income as long as either of the people you choose remains alive. Again, this results in a smaller payment than a single lifetime payment because, with two people, there's a greater likelihood that one of them will live for many years.
You don't necessarily have to use somebody's lifetime when you annuitize. If you simply want to get income for a certain number of years (until your Social Security or pension benefits kick in, for example), you can instruct the insurance company to pay you for a set number of years. Of course, a shorter period results in larger payments.
Different insurers offer different options. Speak with your agent or a customer service representative at your insurance company to find out about any other choices.
Which Option Is Best?
The right choice depends on what you're trying to accomplish. For example, if you're only taking care of yourself (and there are no dependents who rely on the assets in your annuity), annuitizing with a single lifetime payment option should provide the largest payment. However, you always need to consider what will happen if you (or the annuitant, if that is somebody else) die. How will that impact others financially? Do you want beneficiaries to receive anything from the annuity after your death?
Annuitizing is typically a permanent decision. Once you make a choice, it may be difficult or impossible to go back. The insurance company takes steps to manage their risk and keep up their end of the bargain, and it's difficult to unwind the complex transactions that make this possible.
Choosing to Annuitize
Remember that annuitizing is just an option. Most annuity holders never even exercise that option. Instead, people tend to use annuities for accumulation, and then they move their money elsewhere (possibly cashing out, transferring to another account, or just taking lump-sum withdrawals as the need arises).
It's also important to keep in mind that the main reason to annuitize is to get a guarantee from the insurance company of payments for a certain amount of time—there's no government guarantee.
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