How Annuity Premiums Work and Compare to Other Premiums

Couple looking at their annuity insurance plan
••• Geber86 / Getty Images

An annuity is an insurance product. It can provide a stream of payments, tax-deferred earnings, or other features for those who invest long term. But how do you get money into an annuity in the first place? You add funds in the form of “premiums.”

Annuity premiums are the funds that you pay into an annuity. Because annuities are insurance contracts, they use insurance terminology. Payments to other insurance contracts (such as auto or life insurance policies, for instance) are also called premiums. While the lingo can be confusing, annuity premiums are often similar to account deposits.

Learn more about annuity premiums and how they work.

Key Takeaways

  • Premiums are your investment into the annuity plan and the company that offered it. It may be made in one lump sum or with installments.
  • You can pay premiums with almost any funding source, though companies may not accept credit cards.
  • Before you pay premiums, be aware that withdrawing your funds early could trigger penalty fees and taxes.
  • Annuities vary in their premium policy, and some plans may not require that you keep up with premium payments. More contributions could help you get more in retirement.

How Do Different Types of Annuity Premiums Work?

A premium paid into an annuity is simply an investment, in most cases.

Important

Annuities are insurance company products. That means any guarantees (such as lifetime income or earnings promises) are not government-guaranteed. Instead, they depend on the insurance company’s financial strength and ability to pay.

Initial Investment

To start an annuity contract, you might make an up-front investment into the product. For instance, you may want to buy an annuity with $10,000 of savings. To do so, you’d complete an annuity application; then, you'd write a check for $10,000. That $10,000 would be your initial premium paid into the annuity contract.

Additional or Ongoing Premiums

You might also make additional payments into an annuity. This is assuming your contract and relevant tax laws allow you to do so. Depending on your insurance company and your preferences, you might be able to set up automatic monthly transfers via ACH.

Or, you might write a check or request an electronic transfer on-demand whenever you want to contribute more.

Single-Premium Strategy

Some people only make one annuity premium payment, or one investment, with a lump sum of money. After that, they just leave that initial investment alone. They then let the annuity do its thing for several years (or longer). It’s always important to monitor your investments on an ongoing basis. But you don’t necessarily need to add to an account if you don’t want to.

When you only make one payment into an annuity, the approach is often called a single-premium strategy. There are various products that make use of this strategy; these include single-premium immediate annuities (SPIAs) and single-premium deferred annuities (SPDAs).

Account Transfers

You can also fund an annuity by transferring assets from another account, whether it’s an annuity or another type of account. If transferring from an annuity, pay close attention to the rules regarding like-kind exchanges.

Tip

It's often a good idea to enlist the help of a CPA. That's because annuity transfers can be fraught with pitfalls. When moving a large amount of money, the consequences of any mistakes can be severe.

Credit Cards

In most cases, you do not make annuity deposits with a credit card. You might pay for other premiums on plastic. But annuities are different. That's because your premium is a sort of investment. If using a credit card, you would effectively be borrowing to invest. That is generally a risky strategy.

Dollar Limits

Check with your insurance company to see if there are any limits on premiums. If your annuity is also an individual retirement account (IRA) or any other account subject to annual limits, be mindful of IRS rules on how much you can contribute each year.

What Is the Long-Term Commitment of an Annuity Premium?

Before you contribute funds to an annuity, make sure you understand that you might be locking your money up for the long term. There may be consequences. For instance:

  • If you pull those funds out before the annuity's surrender period ends, you might have to pay penalty charges to the insurance company.
  • You might face tax consequences for removing funds from an annuity. These include income taxes, additional penalty taxes, and the need to pay estimated taxes.

How Do Premiums Compare to Other Insurance Premiums?

For some annuities, you're not required to continually make premium payments as you do with standard life insurance or auto insurance contracts. Of course, you should verify exactly what is required in your particular situation and with your specific contract. Failing to meet those requirements could forfeit any rights or benefits you've earned.

Also, the more you contribute, the more you're likely to have later. It might be helpful to add to any existing savings. This assuming the annuity contract is the right place for those additional savings. Be sure you continue to re-evaluate.

If you need help, discuss your needs and your options with a Certified Financial Planner and a tax professional who is familiar with annuity issues.