One of the biggest challenges of retirement planning is determining the best way to convert retirement savings into regular income. Annuities address this common concern, and understanding how each type of annuity works can help you choose the right product for your retirement plan.

This article will examine the differences between an immediate annuity and a deferred annuity, including the accrual and payout options available for each. 

What’s an immediate annuity?

Immediate annuity definition: An immediate annuity is a contract you buy with a lump sum from an insurance company. It starts paying distributions between 30 days and one year after the purchase date. This investment is ideal for those who require a regular monthly income, such as people who have recently retired or plan to soon. 

Say a 60-year-old retiree doesn’t want to start collecting Social Security Income (SSI) until they’re 70 to maximize their monthly checks. To supplement their income before receiving SSI withdrawals, they may opt for an immediate annuity that pays 120 monthly payments over the next 10 years.

What’s a deferred annuity?

Deferred annuity definition: A deferred annuity is a contract with an insurance company that you can buy with one payment (single premium) or multiple payments (flexible). This investment allows your money to grow over a period of time — usually at least a few years from the purchase date. Once your account reaches maturity, you’ll receive a lump sum or a series of payments.

Unlike immediate annuities, deferred annuities have two phases:

• Accumulation phase: During the accumulation phase, your money accrues interest, but the annuity doesn’t disburse funds.
• Annuitization phase: Once the annuity matures, you can start receiving payments. Depending on your contract terms, these may last for a certain period or life. 

Annuity structure options

Here are some of the different types of deferred annuities.

Fixed

A fixed annuity offers a guaranteed interest rate and protection from market volatility. For example, Gainbridge’s SteadyPace™ is a deferred fixed annuity that allows you to lock in an interest rate for a specified period. This annuity option gives you the most predictable growth — you’ll know exactly how much you’ll earn on the purchase date.

Fixed indexed

An indexed annuity links its growth to a market index, like the S&P 500. When the index performs well, so does the annuity. But the opposite is also true — poor performance leads to lower earnings.

Indexed annuities provide principal protection, but in return can limit the upside potential through a cap. For example, an indexed annuity might have a 5% cap and a 0% floor. That means if the index rises 7%, you'll earn 5%. On the other hand, if the index decreases by 10%, your principal won’t decrease. 

Variable

A variable annuity places money into subaccounts tied to market performance. The performance of these subaccounts determines whether you gain or lose money during a particular period. 

Immediate annuity vs. deferred annuity: What’s the difference?

Before deciding which annuity suits your financial needs best, consider their differences.

Payment timing

The main difference between immediate and deferred annuities is the timing of payments. 

• Immediate annuity: Immediate annuities don’t have an accumulation period, and payments may begin as early as 30 days from the date of purchase. 
• Deferred annuity: With a deferred annuity, payments won’t begin until after the contract matures. This gives your investment more time to accrue interest, leading to greater returns.

Premium types

Another difference between immediate and deferred annuities is the type of payment the insurance company will accept:

• Immediate annuity: Immediate annuities start paying right away, so it only makes sense that you would have to provide a lump sum payment. Since there's little time for growth, the minimum lump-sum deposit is typically higher than with many deferred annuities. 
• Deferred annuity: You can purchase a deferred annuity with a lump-sum payment or ongoing contributions. This may make deferred annuities a better option for investors who don’t have access to a large lump-sum payment all at once.

Growth potential

Since immediate annuities don’t have an accumulation period, they don’t accrue interest. Instead, your payout is based on a combination of factors, including the annuitant's age, the size of the initial lump-sum investment, the chosen payout period, and the prevailing interest rate environment. Insurers also consider life expectancy, gender, and the specific annuity contract features when calculating payouts.. 

Deferred annuities have a period to accumulate and compound interest, which can lead to gerater growth potential.

Death benefits

Death benefits include the ability to leave your some of the annuity cash value in the form of a lump sum or continue payments for a period to a selected beneficiary. Both immediate and deferred annuities may include a death benefit. If they aren’t included as part of the base contract, you can often purchase a death benefit rider for additional money. 

Taxation

Immediate and deferred annuities are taxed based on whether they’re qualified or non-qualified: 

• Qualified: You purchase a qualified annuity with pre-tax dollars. Typically, you’d hold these in tax-advantaged retirement accounts like 401(k)s or Roth IRAs. When you start taking withdrawals, you’ll owe taxes on both the principal and growth.
• Non-qualified: You buy a non-qualified annuity with after-tax funds. When your annuity matures, you only have to pay taxes on the growth portion.. 

Which option is right for you?

Choosing between an immediate and deferred annuity involves several factors. Consider these points when deciding. 

Age

If you’re a relatively young investor, consider a deferred annuity, which will allow you to grow your retirement savings over time. On the other hand, immediate annuities appeal to older investors who need a current income stream to cover their expenses. You also need to consider the age you begin taking withdrawals, as an IRS early withdrawal tax penalty applies if you are under age 59 ½..

Retirement timing

An immediate annuity begins making payments within a month of purchase. So, it may be ideal for supplementing income while you’re waiting for retirement accounts to mature or paying for set expenses. 

If you’re still in the early or middle stages of your career, a deferred annuity might better suit your retirement plan. The additional time before annuitization can allow your investment to grow, potentially providing larger payments in the future. 

Risk tolerance

Depending on your age and financial plans, you may want to opt for different structures:

• A fixed annuity will protect your principal and offer guaranteed interest. 
• An indexed annuity doesn’t guarantee growth but offers principal protection. 
• A variable annuity has a higher earning potential, but you can lose money in a down market.

Save more for retirement with Gainbridge

Whether you need a guaranteed income stream now or want to build your retirement fund for the future, Gainbridge can help you confidently navigate your retirement. Our modern platform offers annuity products that match your timeline and income goals — with transparency at every step and no hidden fees. Find a Gainbridge annuity for your retirement plan today. 

This article is for informational purposes only and should not be relied on for personal investment, tax, or legal advice. You should speak to your personal advisor for personal advice.

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Annuities issued by Gainbridge Life Insurance Company located in Zionsville, Indiana. Guarantees are based on the financial strength and claims paying ability of the issuing insurance company.

Withdrawals prior to a contract maturing can be subject to a withdrawal charge and market value adjustment and will decrease your cash value and may erode your principal.