Deferred Annuity: Meaning, Benefits, Types & How It Works
Financial planning is important in all phases of life. But planning for retirement is vital to secure social status and financial stability in your old age. A deferred annuity is one such retirement plan to secure your funds for the future. It is a retirement plan that provides your financial independence after a certain age.
Receiving funds regularly or as lump sum post-retirement helps you cover your expenses and provide a regular source of income. Let’s discuss the deferred annuity plans and other significant details regarding the same.
What is deferred annuity?
In simple words, it is a type of retirement plan. In this scheme, the insured individual makes a contract with the insurance company by which they will pay a series of lump-sum funds to the insurance company to build a retirement corpus. On vesting, this corpus would be utilised to pay a monthly or an annual pension to the annuitant.
How does deferred annuity work?
The deferred annuity works on a tax-deferred basis. The funds invested in the annuity plan can be withdrawn by the insured individual at any time during the tenure.
- The amount accumulated is deferred of tax until they are withdrawn. The premium paid to build up the deferred annuity corpus is tax-free under section 80CCC upto INR 1.5 lakhs every year.
- Individuals only have to pay tax when they withdraw funds or when they start receiving income.
- The accumulation phase is the phase where the investor pays funds on the annuity.
- Annuity begins from the vesting date.
- At the time of vesting, the annuitant has an option to withdraw 1/3rd of the entire corpus as a tax-free amount under section 10(10A). The remaining amount must be utilised to purchase an annuity per the available options.
- The payout phase is when the funds are exchanged back to the investor as a pension. This is taxable in the hands of the annuitant.
- The income is usually planned to allow the investor and their spouse to receive income per the annuity chosen option.
Benefits associated with a deferred annuity
The flexibility of the deferred annuity allows the investor to withdraw funds anytime they want or even transfer funds to meet their needs. There is no compulsion to convert the funds into a series of income as you can withdraw it as a lump sum anytime you want.
Some of the benefits of a deferred annuity are discussed below,
Multiple payout options:
The funds accumulated can be paid out per the schemes you finalise with the insurer. You can receive payouts for your lifetime or for your spouse or opt for other annuity options as well.
Delay your payments:
The funds don’t have to be paid out immediately. In a deferred annuity, you must wait until the deferred phase is complete. After this period, you can either opt for payouts or annuitize them even longer.
You can add funds as lump sums or series during the accumulation phase. You can opt for the best investment schemes depending on the company’s policies.
The funds can be withdrawn as a lump sum or as a series. The withdrawn funds will be taxable, be it a lump sum or periodic. However, their will interest earned is included in these funds.
Tax exemption on the premium payment
As mentioned earlier, the premium paid to build the corpus is tax-free under section 80CCC upto INR 1.5 lakhs per annum.
Limitations of a deferred annuity
As much as the deferred annuity is a safe, regular income option for retirement, it also has limitations of its own.
No tax benefits
The income received from these annuity plans is taxable. Even though the taxes are deferred when they are accumulated, the investors must pay the taxes once they begin to receive the income or withdraw the lump sums.
Does not allow premature surrender
The funds are not accessible and are accumulated until they attend maturity.
The investors pay higher fees and expenses for deferred annuity compared to other insurance schemes.
Deferred annuity payouts
In annuities, the payouts are made as a series of income for the investor for their lifetime. The payout value is decided by the individuals while they enter into the scheme. The scheme’s main aim is to provide a regular source of income for them and their spouse for their lifetime.
In a deferred annuity, the payouts are paid after the deferment period. During this phase, the funds are accumulated, and the interest is earned over them. The funds accumulated are tax-deferred. However, the individuals are expected to pay the taxes for the income they receive as per their tax allotments.
Should you invest in a deferred annuity?
Financial planning is an essential safety protocol. However, choosing the right one is even more important. Understanding your financial needs and requirements, you can opt for an ideal investment.
A deferred annuity can be a great choice if you don’t have any urgent funds or debts. As in a deferred annuity, you only receive funds after the deferment phase, it’s important to understand your financial needs until the payouts are available. A deferred annuity is also a great option if you and your spouse aim for regular income for life.
Difference between a deferred annuity and tax deferral
People often confuse deferred annuity and tax deferral. Both are different. Tax deferral is a feature that comes under annuities.
In general, no taxes are paid on the income received from the funds. The amount stays tax-deferred until its withdrawn. Taxes are paid when they are released from the tax-deferred account. Letting the funds stay in the account, allowing reinvesting and gaining more benefits from the funds.
Difference between a deferred annuity and an immediate annuity
Even though both deferred annuity and immediate annuity are retirement plans, they both vary by payout timing. Both the funds allocate different payout receiving timing.
- In an immediate annuity, the investor can receive income immediately after investing.
- In a deferred annuity, the investor needs to wait to receive income. The funds undergo a deferment phase before the payout begins.
Being financially independent after retirement is the ultimate financial goal. An annuity plan allows individuals to source a regular income Post-retirement. This ensures financial stability and maintains the social status of the individual.
A deferred annuity can be a great option as it offers tax deferment until the funds are withdrawn. If you aren’t in any debt or emergency, then opting for deferred annuity allows you to save better funds for yourself and your spouse, whoever lives longer.
- Can I withdraw my funds earlier?
Early withdrawal or withdrawing of the funds before the individual reaches 59.5 years can lead to a penalty. The investors have to pay a 10% penalty tax over the withdrawn funds along with the tax they were supposed to pay for the withdrawn funds.
- What are the disadvantages of buying a deferred annuity plan?
The main disadvantage while choosing a deferred annuity is doesn’t allow immediate withdrawal. Even no tax benefits are provided on the funds when they are withdrawn. On top of the taxes, most companies also fix high fees to maintain these accounts.
- Are pension and deferred annuities the same?
No, even though both are retirement saving plans, they are different. In pension, the individual saves funds from their income and receives them after retirement. In deferred annuities, the incomes are received from the funds invested by the investor. However, the investors need not wait until retirement to gain the benefits.
- Are there any death benefits in a deferred annuity?
Yes, the deferred annuity provides death benefits. The funds accumulated are passed over to the beneficiary of the investor, as mentioned in their insurance contract. The funds are either paid out as lump sums or on periodic bases.
This article is issued in the general public interest and is for educational purposes only. The blogs should not be used as a substitute for competent expert advice from a licensed professional to best suit your needs. Insurance is a subject matter of solicitation. For more details on policy terms, conditions, exclusions, limitations, please refer/read policy brochure before concluding sale.