Despite the complexity of financial products, most can be broken down and explained in simple terms. Whether it is rooted in control by financial institutions, or simply a byproduct of the nature of investments, many financial contracts are complicated and difficult to understand. Once your take the product and slit it into various parts, the contract seems less complicated and is much easier for the average consumer to understand. On that note, let’s break down one of the more misunderstood products on the market, the fixed annuity.
If you are going to have the annuity explained in simple terms, you must first break it down into different parts. The annuity functions in two basic stages. The first stage is the accumulation stage. This is the portion of the contract in which you fund the annuity. This stage can be as quick as a single lump sum payment as is the case with an immediate annuity, or can be as long as several years as can be the case with a deferred annuity. Depending on the type of annuity, this phase is also the growth phase of the contract.
The second phase of the annuity is the distribution phase. This is the portion of the contract that begins to make payments back to the annuity owners and/or their beneficiaries. The distribution phase tends to be a string of periodic payments that last for either a specific period of time (5 years, 10 years, 20 years, etc…) or it is a string of payments designed to last for the duration of the annuitant’s lifetime.
Although there are a wide number of variations of annuity types, all of them fall into this basic structure. You need to first figure out how you are going to fund the account, and then you need to determine when you want to start receiving payments and for how long. You can certainly get more complicated than that, but these are the underlying principles of the annuity contract.
