Because annuities are insurance contracts, they use insurance terminology. Payments to other insurance contracts (such as auto or life insurance policies) are also called “premiums.” While the lingo can be confusing, annuity premiums are often similar to account deposits. Learn more about annuity premiums and how they work.
How Do Different Types of Annuity Premiums Work?
A premium paid into an annuity is simply an investment, in most cases.
Initial Investment
To start an annuity contract, you might make an up-front investment into the product. For instance, you may want to buy an annuity with $10,000 of savings. To do so, you’d complete an annuity application; then, you’d write a check for $10,000. That $10,000 would be your initial premium paid into the annuity contract.
Additional or Ongoing Premiums
You might also make additional payments into an annuity if your contract and relevant tax laws allow you to do so. Depending on your insurance company and your preferences, you might be able to set up automatic monthly transfers via ACH. You also might write a check or make an electronic transfer on demand whenever you want to contribute more.
Single-Premium Strategy
Some people only make one annuity premium payment, or one investment, with a lump sum of money. After that, they just leave that initial investment alone. They then let the annuity do its thing for several years (or longer). You don’t necessarily need to add to an account if you don’t want to. It’s always important to monitor your investments on an ongoing basis. When you only make one payment into an annuity, the approach is often called a “single-premium strategy.” There are various products that make use of this strategy, including single-premium immediate annuities (SPIAs) and single-premium deferred annuities (SPDAs).
Account Transfers
You can also fund an annuity by transferring assets from another account, whether it’s an annuity or another type of account. If transferring from another annuity, pay close attention to the rules regarding like-kind exchanges.
Credit Cards
In most cases, you do not make annuity deposits with a credit card, because your premium is a sort of investment. If using a credit card, you would effectively be borrowing to invest. That is generally a risky strategy.
Dollar Limits
Check with your insurance company to see whether there are any limits on premiums. If your annuity is also an individual retirement account (IRA) or any other account subject to annual limits, be mindful of IRS rules on how much you can contribute each year.
What Is the Long-Term Commitment of an Annuity Premium?
Before you contribute funds to an annuity, make sure you understand that you might be locking your money up for the long term. There may be consequences. For instance:
If you pull those funds out before the annuity’s surrender period ends, you might have to pay penalty charges to the insurance company. You might face tax consequences for removing funds from an annuity. These include income taxes, additional penalty taxes, and the need to pay estimated taxes.
How Do Premiums Compare to Other Insurance Premiums?
For some annuities, you’re not required to continually make premium payments as you do with standard life insurance or auto insurance contracts. Of course, you should verify exactly what is required in your particular situation and with your specific contract. Failing to meet those requirements could cause you to forfeit any rights or benefits you’ve earned. The more you contribute, the more you’re likely to have later. It might be helpful to add to any existing savings if the annuity contract is the right place for those additional savings. Be sure you continue to re-evaluate. If you need help, discuss your needs and your options with a Certified Financial Planner and a tax professional who is familiar with annuity issues.
