You buy an annuity by giving money to an insurance company in exchange for regular payments

An annuity is a contract between you and an insurance company. You give them a lump sum of money (or make payments over time), and they promise to send you money back on a schedule you choose — monthly, quarterly, or annually. The insurance company invests your money and uses the returns to fund your payments, which continue for a set number of years or for the rest of your life, depending on the type you pick.

You don't explore for an annuity the way you would for a loan or a benefit program. Instead, you work with an insurance agent or financial advisor who sells annuities, compare products from different companies, and then sign a contract. The process usually takes a few weeks from start to finish, though some companies can move faster.

Key Takeaways

  • You purchase an annuity directly from an insurance company through an agent or financial advisor, not from a government agency or employer benefit program.
  • You need to decide how much money to invest upfront and what type of annuity fits your situation — when ready, deferred, fixed, or variable.
  • The insurance company will ask health and financial questions to assess risk and determine your payout amount.
  • Once you sign the contract, the company begins investing your money and you start receiving payments on the schedule you chose.
  • Annuities have surrender charges and tax rules that can affect how much you actually receive, so understanding the contract terms matters before you commit.

Where to buy an annuity

You can buy an annuity from any licensed insurance company that sells them. The major carriers include Fidelity, Vanguard, Prudential, Equitable, and Lincoln National, though dozens of smaller companies also offer them. You don't contact the insurance company directly — instead, you work through an insurance agent, a financial advisor, or a broker who represents one or more companies.

If you have a financial advisor already, ask whether they sell annuities and what companies they work with. If you don't have an advisor, you can search for one through the Financial Industry Regulatory Authority (FINRA) BrokerCheck tool, which lists licensed agents in your area and shows any complaints or disciplinary history. Some banks and credit unions also have agents on staff who can discuss annuities, though they typically represent only one or two companies.

What information the insurance company needs from you

When you meet with an agent to discuss buying an annuity, be ready to provide personal and financial details. The company will ask your age, health status, and whether you smoke — these factors directly affect how much they will pay you each month, because they influence how long they expect to make payments. You'll also need to provide income information and details about other assets you own, so the agent can help you decide how much to invest.

For an when ready annuity (where payments start right away), the underwriting process is usually straightforward and takes one to two weeks. For a deferred annuity (where you invest now but payments start later), the company may ask fewer health questions upfront. Some companies require a medical exam for very large purchases, though most do not. You'll also need to decide whether you want your payments to be fixed (the same amount every month) or variable (tied to investment performance), and whether you want payments to continue to a beneficiary after you die.

How much money you need to invest

There is no single minimum across all annuities — it depends on the company and the product. Some when ready annuities have minimums as low as $10,000, while others require $50,000 or more. Deferred annuities often have lower minimums, sometimes $5,000 to $10,000, because you're not asking the company to start paying you right away. A few companies have no stated minimum, but they may require a larger investment to make the product worthwhile for them.

The amount you invest directly affects your monthly payment. If you invest $100,000 in an when ready annuity at age 65, your monthly income will be lower than if you invested $200,000 at the same age. Your age, gender, and the type of annuity also matter — a 75-year-old will receive higher monthly payments than a 65-year-old who invests the same amount, because the company expects to make fewer total payments. Ask the agent to show you payment estimates for different investment amounts before you decide.

The contract and what happens after you sign

Once you and the agent agree on the type and amount, you'll sign a contract that spells out the payment schedule, the monthly or annual amount you'll receive, any fees or charges, and what happens if you need to withdraw money early. Read this carefully — annuities are complex products with many moving parts, and the contract is the document that governs everything.

After you sign, you'll typically fund the annuity by transferring money from a bank account or rolling over funds from a retirement account like an IRA or 401(k). The insurance company then invests your money according to the terms you chose. If you bought an when ready annuity, your first payment usually arrives within 30 to 60 days. If you bought a deferred annuity, your money grows (either at a fixed rate or based on market performance) until the date you chose for payments to begin.

Surrender charges and early withdrawal penalties

Most annuities come with a surrender charge — a penalty if you withdraw money before a set number of years have passed. This period typically runs 5 to 10 years, though some annuities have longer or shorter windows. If you need to withdraw during the surrender period, the company takes a percentage of the amount you withdraw, often starting at 5 to 10 percent in year one and declining each year until the period ends.

Beyond the surrender charge, the IRS also penalizes withdrawals from annuities before age 59½ with a 10 percent tax penalty on top of regular income tax. There are some exceptions — if you're disabled, facing a medical hardship, or taking substantially equal periodic payments, you may avoid the penalty. The contract should explain these rules clearly, and your agent should walk you through them before you commit your money.

Tax treatment of annuity payments

How you're taxed on annuity payments depends on what money you used to buy the annuity. If you funded it with pre-tax money from a 401(k) or traditional IRA, your entire payment is taxable as ordinary income each year. If you funded it with after-tax money (money you already paid income tax on), only the earnings portion of each payment is taxed — the part that represents your original investment comes back tax-free.

The insurance company will send you a 1099-R form each year showing how much you received and how much is taxable. You report this on your tax return. If you're taking money out before age 59½ and it's not an exception case, you'll owe both income tax and the 10 percent early withdrawal penalty. Talk to a tax professional or financial advisor about the tax impact before you buy, especially if you're considering a large investment.

Frequently Asked Questions

Can I change my mind after I sign the annuity contract?

Most states have a "free look" period of 10 to 30 days after you sign, during which you can cancel and get your money back with no penalty. The exact length varies by state and company, so check your contract. After that period ends, you're locked in, though you can still withdraw money — you'll just pay the surrender charge.

What if I need my money back before the surrender period ends?

You can withdraw it, but you'll pay a surrender charge (usually 5 to 10 percent of the amount you withdraw in the early years) plus income tax on any earnings. If you're under 59½, you'll also owe a 10 percent IRS penalty unless you may have access to for an exception. Some annuities let you withdraw a small amount each year penalty-free — check your contract.

Do I need a financial advisor to buy an annuity?

No, but it's often helpful. An advisor can explain the different types, compare products from multiple companies, and help you understand the tax and fee implications. If you work with an advisor, they're paid either through a commission from the insurance company or through a fee you pay directly. Ask upfront how they're compensated.

What happens to my annuity if the insurance company goes out of business?

Each state has a guaranty fund that protects annuity holders if an insurance company fails. The coverage limit varies by state but is typically $250,000 per person per company. Before you buy, you can check the financial strength rating of the insurance company through agencies like A.M. Best or Moody's.

Can I use retirement account money to buy an annuity?

Yes. You can roll over funds from a 401(k), IRA, or other retirement account into an annuity. This is called a rollover, and it's a common way to convert a lump sum into may provide lifetime income. The rollover itself is not taxable, but your annuity payments will be taxed as ordinary income since the original money was pre-tax.