Annuities are often seen as a reliable source of retirement income. By trading a lump sum for guaranteed payments, you can reduce the risk of running out of savings in your later years. However, many people overlook what happens to their annuity when they pass away.
It is a common misconception that the remaining value of an annuity automatically goes to heirs. In reality, the outcome can vary greatly. While some annuities offer death benefits, others may revert back to the insurance company.
This article delves into the various annuity death benefit options to help you make informed decisions for your financial future and the well-being of your loved ones.
What occurs to an annuity after your passing?
The destiny of your annuity after your passing largely depends on the specific type of annuity you possess and the decisions you made when setting up the contract. Some annuity payments cease upon the owner’s death, while others provide different death benefit options that can offer financial security for your beneficiaries.
Diverse annuity payout options
When you buy an annuity, you have the opportunity to select your desired payout option. This choice can impact the death benefit, if any, that your beneficiaries receive after your passing.
Once you start receiving payments, you cannot modify your payout option, so it is crucial to understand what options are available.
Here are the most common choices.
Life only
With a life-only annuity, payments continue for your lifetime. When you pass away, payments cease entirely. This option typically offers the highest monthly payment since there is no payout to your beneficiaries after your passing.
The amount of your annuity payments is mainly based on your life expectancy. Generally, the longer you are anticipated to live, the smaller your monthly payment will be. While there is no guarantee of recouping your entire investment, you can count on a steady income for your life.
Life with period certain
Payments continue for your entire life. If you pass away before the designated “period certain” (usually 10 or 20 years), payments continue to your beneficiary for the remaining period.
For instance, if you opt for a 15-year period certain option and pass away after receiving payments for 10 years, your beneficiary will continue to receive payments for the remaining five years.
This option offers a safety net for beneficiaries but results in lower monthly payments compared to the life-only option due to the added guarantee.
Joint life with survivor
Payments continue as long as either you or your chosen beneficiary (usually a spouse) is alive. This option provides income protection for both you and your spouse but typically leads to lower monthly payments since payouts must last for two lives instead of one.
The payment amount for the surviving annuitant can be the same as or different from the amount received by the deceased annuitant.
What are annuity death benefits?
A common concern regarding annuities is the possibility of passing away shortly after starting income payments, resulting in the remaining funds going back to the insurance company.
A death benefit, particularly a period-certain option, guards against this scenario. By ensuring payments to a named beneficiary for a specified period, even if the annuity owner dies prematurely, the annuity’s value is better preserved for heirs.
Typically, the death benefit equals either the total amount you invested (premiums paid) or the current value of the annuity, whichever is higher.
Some annuities, especially deferred annuities, provide a death benefit if you pass away before income payments commence. This means your beneficiaries could receive a payout even if you did not start receiving income from the annuity.
The size of an annuity death benefit differs depending on the annuity type and the options chosen during contract establishment.
There are several common types of death benefit options available:
- Standard death benefit: This is the simplest option. Your beneficiary receives the current account value of the annuity at the time of your passing.
- Return of premium death benefit: This option guarantees that your beneficiary will receive at least the total amount of premiums paid into the annuity, regardless of the account value.
- Guaranteed death benefit: This option provides a minimum death benefit, ensuring your beneficiaries receive a specific amount, even if the annuity’s value decreases. It offers greater certainty but may come with higher costs.
Factors influencing death benefits
Several factors impact the value and structure of your annuity’s death benefit.
- Annuity type: Different annuity types (fixed, variable, indexed, etc.) offer varied death benefit options.
- Contract terms: The specific provisions outlined in the annuity contract, including the chosen death benefit option and any riders or add-ons, will also affect the outcome.
- Annuitization date: If the annuity owner has initiated regular payments (annuitization), the death benefit may be reduced or eliminated, depending on the contract terms.
- Economic conditions: With variable annuities, the performance of the annuity’s underlying investments can impact the account value and, consequently, the death benefit.
For fixed annuities, the beneficiary typically receives the present value of future payments. In the case of immediate annuities without a period certain, the insurance company may retain the remaining funds upon the owner’s passing. However, some immediate annuities offer a provision to continue payments to the beneficiary for a minimum period.
Deferred annuities generally pay beneficiaries the total account value if the owner passes away during the accumulation phase. If death occurs during the payout phase, the beneficiary receives the remaining value minus any previous payments to the original owner.
Naming a beneficiary for your annuity
Designating a beneficiary for your annuity is essential to ensure your assets are distributed according to your wishes.
Most annuities allow you to name one or more beneficiaries. However, the specific options available can vary depending on the annuity contract.
The tax implications of inheriting an annuity can be complex, depending on factors such as the beneficiary’s relationship to the deceased and the state of residence. Consulting a tax professional is recommended.
Annuity death benefits can be paid out to a beneficiary as a single lump sum or in the form of ongoing income payments, depending on the specific terms of the contract.
Conclusion
Understanding how annuities operate after your passing is crucial for safeguarding your loved ones’ financial future. By carefully evaluating your options and seeking advice from a financial advisor, you can select the annuity and death benefit that best align with your objectives. Remember to review your beneficiary designations periodically to ensure they still reflect your wishes.