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Differences of Immediate vs. Deferred Annuities


The guaranteed income of an annuity makes this a valuable retirement product for many households. While there are many different kinds of annuity, two of the broadest categories are immediate vs. deferred contracts. With an immediate annuity, you buy the contract in one lump sum and begin receiving payments right away. A deferred annuity, on the other hand, lets you invest in the contract over time and begin receiving payments at a date in the future. Here’s what you need to know.

A financial advisor can help you decide on retirement options for your specific needs.

What Is an Annuity?

An annuity is a contract that you buy, typically from a life insurance company or a similarly-situated financial institution. The contract allows you to make one or more up-front payments, in exchange for which you receive a guaranteed series of payments over a set period of time. The payments are based on your annuity’s interest rate, so that by the end of the contract’s repayment period you collect back more than you paid in.

There are many different kinds of annuities. Some, for example, may offer fixed interest rates while others offer a variable rate of return. Some annuities set their payments in advance, while others pay based on the market at the time of repayment. And some annuities issue payments over a set period of time, for example five or 10 years, while others guarantee payments for the rest of your life. 

Lifetime annuities are a popular asset for retirement investing. With a fixed, lifetime annuity you can receive a defined income stream throughout retirement. While the lack of growth means your annuity payments won’t keep up with inflation, this still provides a sense of security that few (if any) other retirement assets can match outside of a pension plan. 

Among many types of annuities, there are immediate vs. deferred contracts.

What Is an Immediate Annuity?

Immediate annuities are bought with one lump-sum payment and the contract begins issuing payments within 12 months of purchase. Depending on the annuity you might be able to add more money to the contract during that 12-month period, but most people pay for the entire annuity up front. 

For retirees, this is a product that you generally purchase at time of retirement, cashing out a portion of your portfolio to pay for an immediate stream of income. 

If the annuity is qualified, you can use funds from a pre-tax account to buy the annuity without paying taxes. You will then pay income taxes on the annuity’s payments. If the annuity is non-qualified, you buy the annuity with after-tax money and then pay taxes only on the annuity’s returns. You can still use funds from a pre-tax portfolio to buy this annuity, but you will have to treat those funds as a taxed withdrawal. 

What Is a Deferred Annuity?

Deferred annuities are contracts that do not begin to make payments until more than 12 months after purchase. While you can still use these as short-term contracts (for example, an annuity that begins payment 13 months after purchase would be considered a deferred annuity), most investors use these as long-term investment assets.

You can purchase a deferred annuity with either a lump-sum payment or with investments over time. For example, say you spend $20,000 to purchase a deferred annuity that begins repayment in 20 years. You can either invest $20,000 up front or you can invest $1,000 annually until repayment. A deferred annuity can have a fixed date when it begins repayment, or its repayment date can be open-ended based on when you choose to begin collecting.

For retirees, deferred annuities are generally part of a long-term retirement plan. Households will invest during their working lives, building up value in the annuity’s portfolio, and then trigger repayment upon retirement. If you purchase a qualified annuity, you can invest in this contract with pre-tax funds.  

Pros and Cons of Immediate vs. Deferred Annuities? 

A senior consulting a financial advisor about the benefits and drawbacks of annuities.

The major advantage to an immediate annuity is certainty. With this contract, you know how much you have to invest and what the annuity will pay. You can take the amount of money you’ve saved and use that as the purchase price. If you buy a fixed contract, it comes with set, predetermined payments. The insurance company will guarantee you a known monthly payment, for a fixed amount of time (including, potentially, the rest of your life) in exchange for a set amount of money. 

The major advantage to a deferred annuity is planning. You can make this contract part of your long-term retirement plans. In particular, you can invest steadily over time, building up wealth in your portfolio year after year. Then, when it’s time to retire, you can begin repayment using the money you’ve built up. This can let you get more out of your annuity plan by building wealth in the portfolio over the long run. 

Although, that said, when buying a deferred annuity it’s important to consider the contract’s long-term interest rate.

When you invest in a deferred annuity you put money in an interest-bearing account (or in the case of variable annuities, sub-accounts that adjust based on investment performance). That money grows through a combination of interest payments and future investments. Then, when you trigger repayment, the annuity sets its payments based on the amount you have saved and your remaining life expectancy. In many (although not all) ways it’s similar to purchasing an immediate annuity, as in both cases you set the contract’s value based on a final lump-sum amount at the time you want to begin collecting payments. 

So a critical question for investors is: If you know that you will want an annuity in retirement, which option will generate the most generous payments? Based on your available annuity contracts, will you be better off saving your money in a deferred annuity’s long-term account? Or will you receive a better rate of return by investing in the market, and then using that money to buy an immediate annuity at retirement? This is an issue that is best reviewed with a financial advisor, who can help you evaluate your options. 

Bottom Line

A woman researching the benefits of getting a deferred annuity.

An immediate annuity is a contract which begins repayment within 12 months of purchase, and which is typically bought with a single lump-sum payment. A deferred annuity is a contract which begins repayment more than 12 months after purchase, and which can be bought with either a single lump-sum payment or with a series of investments over time.

Annuity Planning Tips

  • Annuities are popular retirement assets for a reason. They provide a sense of stability that only pension plans and Social Security can match. This guide can help you calculate how much an annuity could pay.
  • A financial advisor can help you build a comprehensive retirement plan. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.

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