How is an annuity different from life insurance?

Two women sitting at a table talking and filling out paperwork.

Since annuities are financial products offered by life insurance companies, it’s easy to see why people often get annuities and life insurance confused. As this article will show, annuities operate very differently from life insurance policies and are created to help you meet a unique set of goals and objectives.

Fixed annuities and life insurance policies may come from the same place, but these two financial products are designed to meet very different needs. In general, life insurance policies protect your family’s lifestyle and future by helping to replace your income if you pass away. Fixed annuities, on the other hand, are designed to protect your lifestyle and future by providing a pension-like stream of income that you can use to help fund your retirement. 

Life insurance and annuities—the basics.

Since life insurance and annuities address unique needs, it makes sense that they operate differently. While the guarantees associated with these products are backed by an insurance company, that may be the only thing the two products have in common:

Payouts—While life insurance pays the death benefit in one lump sum, annuities typically pay benefits monthly over time when annuitized.

Beneficiaries—With an annuity, you (and in some cases your spouse) are the primary beneficiary, so you receive all income payments. With life insurance, your spouse, your children, or your other designated heirs are the primary beneficiaries, so they will receive the death benefit after you pass away.

Underwriting—With life insurance, you usually have to apply for coverage,1 and your acceptance is often based on factors such as your age and health. No underwriting is required for an annuity; however, there may be some age restrictions on the benefits you select.

Time frame—Annuities are typically purchased later in life as a way to provide additional income in retirement. Life insurance is often purchased earlier when the death benefit protection may be more important to your loved ones.

Funding—Life insurance policies are usually funded by monthly or annual premiums (payments) that you make over time, while annuities are usually funded in one or more lump-sum payments.

Does it make sense to have life insurance and an annuity?

In many cases, yes. Since one product helps safeguard your family’s lifestyle and the other helps safeguard your retirement, people often use both to build what is essentially a “portfolio of protection.”   

Fixed Annuities to complement CDs, IRAs, and 401(k)s.

While there are a lot of financial instruments that can help you save for retirement, such as CDs, IRAs, and 401(k)s, annuities are unique because they give you a tax-efficient way to make sure the money you saved lasts as long as you need it to. As a result, they can make a great addition to your retirement portfolio.  

Does that mean annuities are safe?

Unlike CDs, which are FDIC insured, annuities are backed by the claims-paying ability of the insurance company, so it’s important to compare the financial strength of each company before making a decision. In general, however, most fixed annuities are considered to be fairly safe--especially if you select one that matches your particular needs.

It’s all about happiness and security.

If you’re wondering why annuities are so popular, you don’t have to look any further than the American College of Financial Services. In a 2020 study,2 researchers found that a stable source of income makes it easier for retirees to enjoy their retirement, because it greatly reduces two main sources of financial anxiety: (1) the fear of spending money too quickly, and (2) the possibility that retirement assets will decline in value. In fact, researchers found that an annuity can help retirees meet their spending goals with fewer assets than they might with a portfolio that features investments only.

Here’s an example of how an income annuity, a type of fixed annuity, works.

Let’s say you have $100,000 that you want to set aside for retirement. If you’re a male who retires at age 65 and uses that money to purchase a Guaranteed Lifetime Income Annuity, you could count on receiving approximately $424.86 in income payments every month for the rest of your life.3

Premium Age Annual Payout Rate4 Monthly Income for Life
$100,000 65 5.38% $448.63

Am I just getting my own money back?

No. Annuity income includes return of your premium with each payment—along with accumulated interest and a host of other financial considerations. That’s why annuity income payments are often higher than the monthly interest you would receive on. 

A few good reasons to consider a fixed annuity.

Annuities can be an extremely valuable retirement tool because they are the only financial vehicle that can help you accomplish all the following goals: 

Protect your retirement lifestyle—By providing a pension-like stream of income in retirement, annuities can help you make sure that your retirement needs continue to be met.

Protect yourself from outliving your money—Depending on the annuity you select, you can dramatically reduce—or completely eliminate—the risk of outliving your assets.

Protect your assets from potential market loss—By placing your money in an annuity, you are essentially shifting the risk of loss to your insurance company, so you no longer have to worry about market performance.

Spend more freely—Knowing you have a steady stream of income to count on, you may feel more comfortable using some of your other assets to enhance your quality of life.

What are the disadvantages of an annuity?

The disadvantage of an annuity is that a portion of your money is locked away. With a fixed deferred annuity, it is locked away for a specific period of time. With a lifetime annuity, it is locked away for life. While there are some annuities, such as New York Life’s Clear Income Annuity, that allow limited access to your principal, it’s important to remember that annuities should only be part of your retirement portfolio, so you always have other assets to rely on in an emergency.

Mature couple spending time together at a lake.

Choose the annuity that best meets your needs.

Since everyone’s retirement needs are different, we offer a wide variety of income annuities—each with its own unique set of benefits and features:

Lifetime Income Annuity—Provides a steady stream of income that’s guaranteed to last the rest of your life.

Fixed Period Income Annuity—Offers guaranteed income for a specific period of time.

Deferred Income Annuity—Allows you to receive higher income payments for life by delaying the start for a specific amount of time after you purchase the annuity. 

Frequently asked questions.

If you pass away after your income payments equal or exceed the amount of money used to purchase the annuity, your contract will simply end. If you pass away before that time, your beneficiaries will receive  the remaining money as a death benefit or refund.4

You do not have to pay income taxes on your annuity until you begin receiving payments. If you purchased the annuity with pretax funds, your income payments will be taxed as regular income. If you purchased the annuity with after-tax funds, you will pay taxes on the earnings, but not on the return of  your premium.

In most cases, there are penalties for canceling your annuity contract early, so be sure to check with your agent before you do. There are some annuities that do not penalize you for early termination; however, you will receive only the amount of money that you paid into the policy (not the total value that you would receive in income payments), minus any payments you have already received. 

You cannot lose money in the vast majority of annuities. The only potential exception to that rule is a variable annuity, which may decline in value due to market performance.

In some cases, you can exchange one for another, provided your life insurance policy accumulates cash value.

If you selected a joint life benefit, yes. If not, your spouse would be eligible to receive any undistributed principal, assuming that your spouse is your beneficiary. A New York Life financial professional can give you all the details.

As with most financial products, annuities are only bad if they do not meet the senior’s needs. In many cases, however, income annuities are a sound and effective way to help seniors make sure their assets last as long as needed.

The answer to that question depends on your needs, situation, and the type of annuity you purchase. For example: If you are in your working years and have plenty of money to get by, you may want to consider purchasing a deferred annuity as soon as possible. If, however, you need access to all your money now, you may want to wait and purchase an immediate annuity upon retirement. A New York Life financial professional can help you determine what’s best for you.

We’re here to help.

If you’re worried about running out of money in retirement, or just want to make sure you have enough income to lead the lifestyle you always imagined, annuities can be a helpful and reassuring part of your retirement plans. If you have more questions or would like to see how much income an annuity can generate for you, please contact a New York Life agent. 

New Your Life annuities are issued by New York Life Insurance and Annuity Corporation (a Delaware Corporation), a wholly owned subsidiary of New York Life Insurance Company. For most jurisdictions, the policy form number for the New York Life Guaranteed Lifetime Income Annuity is ICC11-P102; it may be 211-P102 and state variations may apply. 

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1 The exception being guaranteed acceptance life insurance products.

2 American College of Financial Services, “Focus on Retirement Happiness to make the Annuity Case,” October 28, 2020.

3 Monthly income is based on rates as of 3/7/22 for a New York Life Guaranteed Income Annuity (male, age 65, Life with Cash Refund Payout Option) with a $100,000 premium payment. Rates are subject to change.

4 The annual payout rate includes a return of premium and other factors and is not an interest rate.

5 The availability of these options are based on the annuity you purchase and/or the features you select.