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Definitions of Terms
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Types of Annuities

What is an annuity What is an annuity?
Fixed Annuities Fixed Annuities
Variable Annuities Variable Annuities
Indexed Annuities Indexed Annuities

What is an annuity?

Annuities are savings vehicles, much like savings accounts or certificates of deposits (CDs), except that they are designed for saving over a long term, years as opposed to months. As such, they usually offer higher rates of return than savings accounts or CDs, however they also charge penalties if withdrawn early (higher penalties than CDs). Also unlike savings accounts and CDs, annuities are issued through insurance companies and not through a bank.

The greatest difference between annuities and other savings vehicles is that their purpose is not to provide a lump sum to the owner but to provide an income stream over time.

There are two basic types of annuities: fixed and variable. For our purposes however, we will also discuss indexed annuities, which are a type of fixed annuity, as a separate type since the funding method is distinct enough to require additional explanation.

Fixed Annuities

A fixed annuity offers a guaranteed rate of return or a "fixed" rate of return. So as long as you do not make any withdrawals you know that you will have exactly your principal, or money deposited, plus a percentage of such when you retire.

Variable Annuities

Variable annuities offer a variable rate of return. The interest rate is determined by the market price of the stocks, bonds, or mutual funds that compose it. Since the rate is variable and determined by the market your opportunity for both gains and risk are greater. This includes risk to your principal.

Indexed Annuities

Indexed annuities offer both a fixed and variable rate of return. The rate of return is based not on individual stocks and bonds, or on mutual funds but on a market index such as the Nasdaq or S&P. When the index is up your rate of return is up and when it is down so is your rate of return, however because there is a fixed rate aspect as well, your rate of return will never fall below the guaranteed rate stipulated in the annuity contract.