Two contracts can carry the same insurer's name and the same label, annuity, yet only one needs a prospectus and a securities license to sell. One question sorts every product in this lesson: who bears the investment risk?
An annuity is a contract with an insurance company that grows money tax-deferred and can turn it into income for life. Because the insurer pools many lives, it can promise to pay for as long as the client lives.
Three choices shape every contract:
- Deferred versus immediate annuities: A deferred annuity grows for years before paying. An immediate annuity starts payments within about a year of purchase.
- Single versus flexible premiums: A single-premium contract takes one lump sum. A flexible-premium contract accepts deposits over time.
- Accumulation and payout phases: In the accumulation phase, money goes in and grows. The payout (annuitization) phase begins when the owner converts the value into payments, usually irrevocably.
Payout options trade monthly income for guarantees:
- Life only: Payments stop at the annuitant's death and leave nothing to heirs. Because the insurer promises nothing more, this option pays the most per month.
- Life with period certain: Payments last for life, and for at least a set term such as 10 years.
Common mistakes
- Giving a life-only annuitant's heirs the leftover value. Payments stop at death; only a period certain or refund option leaves anything behind.
- Raising a variable annuity payment because returns were positive. A 2% return against a 4% AIR lowers the payment.
- Treating a RILA like a fixed indexed annuity. Only the fixed indexed annuity has a 0% floor. A RILA owner with a 10% buffer is still down 15% after a 25% drop.
Bottom line
- A fixed annuity puts the investment risk on the insurer and is not a security under USA Section 401(m), so it is sold under an insurance license.
- A variable annuity puts the risk on the owner, so it is a nonexempt security (unless the state excluded variable contracts) sold by prospectus by a dually licensed person.
- A variable annuity is a federal covered security, so the state can require only a notice filing.
- Variable annuity payments rise only when subaccount returns beat the AIR.
Exam shortcut
DECISION: Find the risk-bearer first. If the insurer bears it (fixed annuity, fixed indexed annuity meeting 989J, whole life, universal life), think insurance license only. If the owner bears it (variable annuity, RILA, variable life, variable universal life), think security, prospectus, dual licensing and notice filing, unless the state excluded variable contracts. For annuity tax questions, sort by stage. Before annuitization, earnings come out first.
The full lesson (about 3,657 words, 24 min read) adds 2 worked examples, all 6 common mistakes, a self-check, free in the app.
Learning objectives
- B17
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