Classifying things into types is always a tricky business. Consider a red Chevrolet Corvette.
What is it?
Well, that depends upon the type or types of classifications we’re using. It’s a motor vehicle. But what kind of motor vehicle? Well, it has four wheels, so that we can use that classification to make clear that it’s not a motorcycle (which uses two or three wheels). It’s also a car (as opposed to a truck). And a kind of car called a sports car as opposed to, say, a station wagon. (Are there still station wagons?) And this one is red, so it’s not blue or black or some other color.
The problem with assigning only one category to anything is that readers sometimes think that this fully describes that thing. But it never does. The car in question is a car and a sports car and red and a Chevrolet (it’s not a Ford or any kind of foreign car) . . . We mention this because annuities are complex because there are several different types and subtypes, designed to do very different things. Understanding that any one annuity contract may be described accurately by several different labels is essential to an understanding of how it works. So, let’s get started.
It is possible to divide all annuity contracts into different types using four different parameters:
1. How is the annuity purchased?
2. When do regular annuity payments are commence?
3. How are contract values and premiums invested?
4. How is the contract taxed?
1. How Is the Annuity Purchased?
Using this parameter, there are two kinds of annuity contracts: (1) Single Premium, and (2) Flexible Premium.
A single premium annuity is a contract purchased with a single payment, or premium. No further premiums are required, or even allowable. By contrast, a flexible premium annuity is purchased with an initial payment (to establish the contract) and allows for a series of premiums that may be paid whenever, and in whatever amount, the purchaser wishes, subject to policy minimums and maximums.
2. When Do Regular Annuity Payments Commence?