A single premium deferred annuity (SPDA) is a financial product that guarantees a steady stream of payments over a period of time, regardless of the market's performance.
What Is a Single Premium Deferred Annuity (SPDA)?
A single premium deferred annuity (SPDA) is established with just one payment—a large sum of money. Depending on the annuity, some will have a minimum investment of around $5,000 while others run well into the millions.
A person might elect to start an SPDA because they:
- Received an inheritance
- Collected a 401(k) with a large balance after an employment separation
- Sold a business
How a Single Premium Deferred Annuity Works
A deferred annuity is one that doesn’t start paying right away. You first fund the account and then later, at a time of your choosing, start to receive payments.
Because annuities are often tax-deferred, they come with the same rules as other retirement accounts that receive this favorable tax treatment. You will have to wait until you’re at least 59½ before withdrawing funds or you will pay a 10% penalty on top of the ordinary income taxes that come with the withdrawal.
Deferred annuities also come with guarantees. Generally, even if the market has a bad year, your account will not lose money.
The least you can receive is nothing. There are no negative returns. The price for that guarantee is the loss of some upside. If the financial markets have an incredible year, your gains may be capped at a certain amount, and the insurance company keeps the rest.
Annuities of this type have surrender penalties that encourage you to keep the money invested for a long period. If you have to withdraw funds within the first 10 years, or whatever the insurer writes into the contract, you will pay a surrender fee. Some insurers will allow a free withdraw of a certain amount and/or lower the surrender fee each year until it goes away completely.
Finally, deferred annuities include a death benefit that guarantees the beneficiaries receive the principal amount plus any gains. They cannot receive less.
Alternatives to Single Premium Deferred Annuities
Other annuities come with monthly payments and just like some IRAs or 401(k)s, the proceeds grow tax-free until the person begins taking distributions of the funds. They’re often used to guarantee a monthly stream of income regardless of market conditions. Think of an annuity like a pension.
As you pay into this type of annuity, the insurance company will invest the funds into the market. Depending on the contract, you may have a say in how those funds are invested.
Another alternative for investors with a large sum is an IRA with an appropriate risk profile. Annuities have high fees compared to some investment products.
Are Single Premium Deferred Annuities Worth It?
An SPDA creates a guaranteed, steady stream of income later in life. This guarantee makes financial planning much easier because you eliminate the risk of the financial markets crashing not long before you retire or other unforeseen risks that could keep you from paying into the annuity. Your financial adviser will love this guaranteed payment because they can create a plan that easily forecasts your monthly income and the tax consequences that come with it.
Annuities are a polarizing topic in the world of financial planning.
Some advisers love annuities because they provide guaranteed income at a time when many will be unable to work should their financial situation become challenging.
Other advisers argue that because an annuity is an insurance product, it should be treated as such. The person should pay a monthly premium to protect against loss, and the wealth creation that comes from smart investing should come from investment products.
- Single premium deferred annuities (SPDA) are set up with one large payment and provide a guaranteed income in the future.
- SPDAs can be unpopular because of their higher fee structures.
- SPDAs are strong options for conservative investors.
- SPDAs make it possible to plan for future tax consequences.