Deferred Annuity - Meaning, Features, Types, and More

An annuity is a type of investment that offers steady income during retirement. You can consider it as a savings plan where you put in money either all at once or over time. In return, you get a guaranteed income in the future.

Deferred annuities are a special type, where you wait for some time before getting your payouts. They can be a smart choice for people looking to grow their savings for the long term before getting regular income.

This article will dive deep into deferred annuities. You'll learn what these annuities are, how they work, who should consider them, the different types available, and more. So, if you're thinking about future financial security, keep reading!

Key Highlights

• Deferred annuities offer regular retirement income after depositing money either as a lump sum or over time.
• Two primary deferred annuity plans are -'regular pay' (deposit over years) and 'single pay' (one-time deposit with set deferment).
• Four main types  of deferred annuity plans are available - 
  • Fixed: Set interest rate
  • Variable: Investment-based variable returns
  • Indexed: Minimum guaranteed return with potential market index linkage
  • Longevity: Lifelong income with tax advantages until the age of 85
• Some of the benefits of deferred annuities are tax deferral on profits, customisable plans, unlimited contributions, and optional riders.
• The disadvantages of deferred annuity plans include high surrender charges, extra taxes, and (potential) missed higher returns from other investments.

What is Deferred Annuity?

A deferred annuity is a type of insurance agreement set up to provide money for your later years. By paying in a single amount or regular sums for a minimum of one year, you enter into a deal with an annuity firm. After that time, the firm returns your money bit by bit, adding a bit extra as a profit.

This plan serves two main purposes. First, it lets you save a good amount for when you retire. Second, it ensures that you have a regular income once you've retired. With this income, you can be ready to achieve dreams after work life like buying a home, journeying to new places, diving into a passion, or even setting up a fresh project.

In a nutshell, it's a great way to keep your future bright and active!

How Do Deferred Annuities Work?

A deferred annuity plan is a way to ensure a stable income when you retire. In the 'regular pay' type of this plan, you deposit a certain amount, often called premiums, over several years. After a set time (as per your chosen plan), you start receiving a steady income for life. 

There's another kind - the 'single pay' plan - where you make a one-time payment and wait for a specified 'deferment period' before the income starts flowing in. How often you pay into the plan — be it monthly, every six months, yearly, or just once — is up to you.

Here's a simple example to clarify -

Imagine you're Mr Sharma and you choose a single pay deferred annuity plan. You pay INR 10 lakhs today. After your chosen deferment period of 5 years, you start receiving a fixed monthly income, say INR 10,000, for the rest of your life.

The income amount gets decided when you buy the plan so that you can plan your future finances with certainty. 

And here's some good news — your income won't wobble with market ups and downs, safeguarding your hard-earned savings.

What's more, these plans come with various options. You can tailor them to suit your needs, even including financial security for your spouse or family. Some plans even give you an option to get back all the premiums you paid at the end of its term. 

With a deferred annuity, thus, you can look forward to a worry-free retirement in India.

Types of Deferred Annuities

Discussed below are the major types of deferred annuities –

• Fixed Deferred Annuity: Fixed deferred annuity is akin to a bank savings account. It guarantees you a set interest rate on your invested amount. The least return you'll get is already set in stone. 

Though the return might sometimes be higher, it'll never dip below the promised rate. But remember, the interest stacks up until you decide to take money out. If you're not keen on accruing interest, then perhaps this annuity isn't for you.

• Variable Deferred Annuity:  This is a bit different. Here, your money sits in an investment pot. The investments are picked based on factors like your age and how much risk you're willing to take. 

Your choices might be limited to stocks and bonds. The returns aren't fixed in these types of deferred annuities. Rather, they shift based on how the chosen investments (like mutual funds) perform. 

Here’s the good bit — until you take out your money, you won't be taxed. Moreover, there are added perks like possible future income or benefits if the holder passes away.

• Indexed Deferred Annuity: Sometimes called an equity-indexed annuity, this is like a mix of the first two. Some look at it as a fixed annuity because it gives a guaranteed minimum return. 

But there's a twist: your earnings could be linked to how a specific market index performs. 

• Longevity Annuity:  You can see this as a lifelong pay packet that keeps coming no matter how long you live. This lets you use up your retirement savings without worry. And a bonus is that the taxes on these annuities are paused until you reach 85. 

If the holder passes away, the policy doesn't terminate. It simply goes to the named beneficiary. This way, it ensures peace of mind for your golden years.

Who Should Buy Deferred Annuity Plans?

Following individuals can opt for deferred annuity plans to maximise their savings –

• Approaching Retirement: Individuals nearing their retirement years often find deferred annuity plans appealing. By this stage, many have accumulated substantial savings and are seeking a strategy to maximise growth just before they start receiving retirement income.
• Maxed Out Other Plans: If you've already reached the limits of other retirement savings options available to you, a deferred annuity can offer an additional avenue. This allows you to continue investing and benefit from tax-deferred growth.
• Seeking Tax Advantages: Those planning to take advantage of tax-deferred growth should consider deferred annuities. Here, the funds grow without incurring taxes until withdrawal, potentially leading to more significant returns in the long run.
• Desire for Guaranteed Income: If the security of a guaranteed income in retirement attracts you, a deferred annuity can provide that peace of mind.
• Planning Ahead: It's essential to note that deferred annuities are long-term commitments. Those considering this option should be comfortable with not accessing their funds immediately.

If you anticipate requiring your savings within a short span, other options like immediate annuities might be more appropriate.

Advantages of Deferred Annuity Plan

Some of the key benefits of deferred annuity plan are listed below -

• Customised Investment Approach: There's no 'one size fits all' with deferred annuities. You have a variety of types to choose from, allowing you to select an investment strategy that aligns with your objectives and how much risk you're comfortable with.
• Tax Benefits: One of the big wins with a deferred annuity is the tax relief. As long as you keep your funds within the annuity, you're not taxed on any profit you make. Contrast this with regular brokerage accounts or CDs, where you're taxed annually on your gains. This tax deferral can boost your returns over time.
• Unlimited Contributions: Unlike some retirement schemes, which have an annual saving cap, deferred annuities come with no such limits. This gives you the freedom to save as much as you wish, making them a valuable addition to other retirement savings plans you might have.
• Optional Rider Benefits: A noteworthy benefit of deferred annuities is the added layer of benefits that you can choose to include, i.e. contract riders. 

Some popular choices among investors include a promise of a minimum payout once you start drawing an income, regardless of how the investment has performed. Additionally, if something unfortunate occurs during the savings phase, there's a benefit that your loved ones can receive, called the death benefit. Such perks aren't typically available with standalone investments.

Disadvantages of Deferred Annuity Plan

Let’s take a look at some of the drawbacks of deferred annuity plans –

• Limited Access to Funds: When you obtain a deferred annuity, you're essentially locking away your funds. If you need to access them earlier than planned, it can prove to be an expensive affair. This is mainly because of the surrender charges, which can significantly reduce your savings. Once you've started receiving your income from the annuity, the decision usually becomes permanent — undoing it can be pretty challenging.
• Penalties on Early Withdrawal: Tied to the tax benefits of a deferred annuity is a limitation. The Internal Revenue Service (IRS) encourages savers to keep their money in the annuity until retirement. If you decide to take out money before you're supposed to, you'll not only face the aforementioned surrender charges but also additional taxes. 
• Possibility of Lost Opportunity: While an annuity might promise guaranteed returns, the rates might sometimes be lower than what you could have earned if you'd invested elsewhere. Given the long-term nature of these contracts, you could be locking yourself into a deal that might not yield as much as other potential investments.
• Complexity and Fees: Deferred annuities can sometimes be complex, with various fees and charges embedded. There might be management fees, insurance charges, and more. For someone not well-acquainted with financial jargon, this can be overwhelming and potentially costly if not fully understood.