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Imagine a retirement where you never worry about running out of money. No more fretting over market fluctuations or questioning if your savings will last.

Income annuities are often hailed as the solution to longevity risk — that is, the risk of outliving your money. They allow you to swap out a lump sum of your retirement savings in exchange for a regular stream of income from an insurance company, sort of like a self-funded pension plan.

In this article, we break down income annuities and take a closer look to see if they’re really a golden ticket to retirement security or a one-way trip to limited options.

What is an income annuity?

An income annuity is a financial product designed to convert a lump sum of money into a guaranteed stream of income payments. Often purchased by retirees or those nearing retirement, it can replicate a steady paycheck, regardless of market fluctuations.

Income annuity payments can be structured in a few different ways:

Lifetime income
Payments continue for as long as you live.
Period certain
Payments are guaranteed for a set number of years, even if you pass away before the term ends.
Joint and survivor annuity
Payments continue for the life of the surviving spouse after one partner passes away.
Once you choose your income structure, the payout amount is determined based on multiple factors, including your age, the amount you invest and current interest rates (more on that later).

Income annuities are usually a type of immediate annuity. As the name implies, immediate annuities begin making payments shortly after the purchase, usually within a month. Deferred income annuities, on the other hand, allow you to grow your money over time before receiving income payments at a predetermined date in the future.

How do income annuities work?

Income annuities work by converting a hefty up-front payment — or a series of payments — into a set of guaranteed income payouts. These payments can begin immediately or at a deferred date.

There are two main types of income annuities:

  • Single-premium immediate annuity (SPIA): SPIAs are the most common type of income annuity. You pay a lump sum upfront, and the annuity company starts making payments to you shortly after that, typically within a month. These payments are guaranteed for life by the insurance company (or a chosen period) and can be fixed or variable, depending on the details of your contract.
  • Deferred income annuity (DIA): You make payments over time, allowing your money to grow within the annuity until a set date, at which point you start receiving income payments. DIAs can be a good option if you’re further away from retirement and want time to accumulate more money first.

Pros and cons of income annuities

Income annuities, like most financial products, have their strengths and their drawbacks. While these contracts offer a way to replicate a paycheck in retirement, they come with fees and restrictions you should be aware of before moving forward.


  • Guaranteed income for life: Purchasing an annuity can provide peace of mind that you’ll have a steady stream of income, regardless of market fluctuations.
  • Inflation protection: Some annuities offer cost-of-living adjustments, sometimes at an added cost, to help maintain purchasing power.
  • Tax benefits: Earnings within the annuity grow tax-deferred.


  • Loss of control: Once you invest in an income annuity, you generally cannot access the principal amount. It can be difficult — and costly — to get money out of an annuity, especially once you begin receiving payments from the insurer.
  • Limited growth potential: Since annuity payouts can be tied to a fixed interest rate, payouts may not keep pace with inflation over time.
  • Fees and surrender charges: Be wary of potential fees associated with annuity purchases and early withdrawals. Ongoing annual fees and surrender charges can eat into your returns.

How much money can you receive with an income annuity?

The size of the payouts you can expect from an income annuity depend on your age, your initial investment amount and current interest rates.

First, the larger your initial investment, the higher your monthly payout will be. You’ll generally need to commit $100,000 or more to generate any kind of meaningful payout in retirement. Higher interest rates also generally translate into higher annuity payouts.

Meanwhile, younger individuals typically receive lower payouts due to their longer life expectancy. The specific income option you choose (lifetime, period certain or joint-survivor) will also impact your payout amount. For example, the joint-survivor option will always result in lower payouts, since payments need to last the life of two people instead of one.

There are online annuity calculators that can help estimate potential payouts based on your specific circumstances. However, it’s always smart to consult with a financial advisor to determine the most suitable option for your retirement goals.

Who is a good fit for an income annuity?

If you’re risk-averse with a low tolerance for market fluctuations, income annuities can provide a guaranteed income stream while shielding you from the turbulance of the stock market. They can also be a suitable option if a long life expectancy runs in your family and you expect to live a long time in retirement.

However, it’s essential to weigh the potential drawbacks before committing to an income annuity. Accessing the principal amount is usually restricted and often comes with high surrender charges. This gives you less liquidity compared to other investment options.

If you’re interested in purchasing an annuity, financial experts generally recommend allocating a portion — but not all — of your retirement savings to the annuity.  A good rule of thumb might be 10-20 percent of your retirement nest egg. This ensures you remain diversified with multiple income streams that include Social Security and 401(k) savings, as well as annuity payouts.

Frequently asked questions

  • Income annuities are generally considered a low-risk investment since they’re backed by the issuing insurance company. However, it’s important to choose a reputable insurance company with a strong financial standing. There are also fees and penalties associated with annuities that might not make them suitable for everyone.
  • With an income annuity, accessing the principal amount typically comes with surrender charges, which can be significant. Deferred income annuities may offer more flexibility for withdrawals before the income stream begins.
  • The payout option you choose will determine what happens to the remaining funds in your annuity after you pass away. You may be able to name a beneficiary to your contract, at an additional cost. Otherwise, your remaining balance will likely go to the insurance company after you die.
  • Earnings within the annuity grow tax-deferred. However, you will pay taxes on a portion of the payouts you receive. This portion is typically taxed as ordinary income. There may also be tax penalties for early withdrawals.

Bottom line

Income annuities offer a way to secure a guaranteed income stream in retirement. However, they’re not a one-size-fits-all solution. Carefully consider your retirement goals, risk tolerance and income needs before investing in an annuity. Consulting with a qualified financial advisor can help you determine if an income annuity is the right fit for your financial situation.