What Happens to an Annuity When You Die?

The beauty of annuities isn’t just that they are powerful retirement planning tools, but also that they can be an effective way to do estate and legacy planning. You can put your money in an annuity, receive a guaranteed retirement income, and then pass along any remaining funds to a beneficiary.

However, annuity funds are not always passed on to your loved ones after you die. In this article, we explain how inherited annuities work and how to know if your funds will be passed on or not.

Payout Options After Death Depend on the Annuity Contract

Annuity companies offer you a number of different contract options to suit your needs. Ultimately, how your annuity payouts work after your death depends on your annuity contract.

One important factor in whether your beneficiaries will receive a payout is the payout option you choose when you annuitize your annuity. The most common payout options are:

• Period certain. You receive payments for a specified period of time — and then payments stop.
• Single Life. You receive an income stream for the rest of your life.
• Life with period certain. You receive income for a guaranteed amount of years, and if you die during that time, the remainder is passed to a beneficiary. After that minimum, you receive income for life.
• Joint life. You receive an income stream for the rest of your and one other person’s life.

Note that these options are typically available for all types of annuities, including immediate annuities, and various types of deferred annuities: fixed annuities, variable annuities, or fixed-indexed annuities.

How Different Options Payout if the Annuitant Dies

How exactly do those payout options work? Here are the details of some of those different cases.

Period Certain Payout Option

A period certain pays an annuitant an income for a set period of time. Then the payments stop. Payments are generally higher for period certain payouts than they are for lifetime income payout options, but the payments may not last for life.

For example, if you bought an annuity and chose a 10-year period certain payout. Your annuity account would be paid out over 10 years. If you live longer than those 10 years, you’ll stop receiving payments and your contract will end. If you die before the 10 years are up, a beneficiary will receive the remainder of your annuity payments.

Period certain annuities are a good option if you prefer to have higher payments for a shorter, specified period and you don’t need your annuity payments to last you the rest of your life.

Life Only Payout Option

A life only pays an annuitant an income for the rest of their life. The insurance company would calculate the amount of those income payments, accounting for the life expectancy of the annuitant. When that annuitant dies, payments stop and no more benefits are paid out. That means any money remaining in the annuity account goes to the life insurance company — not to beneficiaries.

For example, imagine you have an annuity and choose a life-only option. You could be sure that it would last your entire life. If you live longer than the average life expectancy, then you would get paid out more than what your annuity was worth. But if you die earlier, anything left in your annuity account would go back to the insurance company.

This is a good option if you want to make sure you have income for the rest of your life, however, this option would not leave anything for your beneficiaries.

Life with Period Certain Payout Option

A life with period certain blends those first two options. It guarantees an annuitant lifetime income and it offers a minimum period where, should the annuitant die, any remaining funds are passed on to a designated beneficiary. In this option, payments might be a little lower than they would be with a single-life payout.

For example, if you choose this payout option with 15 years period certain; if you die before the 15 years is up, any remaining payments will go to your beneficiaries. After the 15 years of period certain payments have ended, you can be sure that you’ll receive your annuity income payments for the rest of your life. When you pass away, payments stop and no more benefits will be paid out.

This is a good option if you want to ensure you have retirement income for the rest of your life, but you also want to make sure that, if you die early, some of your annuity goes to a beneficiary.

Joint and Survivor Payout Option

Joint and survivor options offer income payouts as long as one of two individuals (usually spouses) named in the contract is living. Usually, payments are higher while both individuals are alive but when one spouse dies, the surviving spouse receives reduced payments.

For example, imagine you choose a joint life payout option for your annuity where both you and your spouse are named. When you annuitize, you request that you receive higher payments while you both are alive. Then, when either you or your spouse pass away, you request that payments are reduced by 50%. This option would ensure that both you and your spouse have a guaranteed income for life.

How do Death Benefits Work?

The above payout options are the typical options offered when you begin to receive payments from an annuity. In addition, most insurance companies also offer death benefits to provide more options for passing on your annuity funds to beneficiaries.

Annuity death benefits allow you to name a beneficiary to receive any of your remaining annuity payments or annuity account balance after your death. These are either built into the annuity (which is what we do at Canvas Annuity) or may be chosen as a separate add-on or rider — sometimes for an extra charge. Some life insurance companies will offer standard death benefits, and then add enhanced death benefits for an additional charge.

Some of the most common death benefit options are:

• Standard death benefit. A beneficiary receives the remaining annuity account value when an annuitant dies, regardless of whether it has increased or decreased since it was issued. This is the death benefit offered with all annuity products at Canvas Annuity.
• Return of premium. A beneficiary receives the remaining value of the annuity account, or the initial premium (minus withdrawals and fees), whichever is greater. This is most commonly offered for equity-indexed and variable annuities.
• Stepped up benefit. The insurer sets a “high-water mark” for the highest value an annuity account has in a given time period. The death benefit would then be calculated as the current account value or the last high-water mark — whichever is greater. This option is more common with equity-indexed and variable annuities.

Together, these death benefit options allow you to pass on any remaining annuity value to friends, family, or other loved ones.

What Happens if You Die Before Annuitizing?

Annuities typically have two phases: an accumulation phase where your account is earning interest and growing, and a payout phase where you begin receiving payments. When you annuitize your annuity, you begin the payout phase.

If you die while your annuity is still in the accumulation phase, typically your beneficiaries will receive the current annuity value.

Choosing a Beneficiary

A beneficiary is a person who will receive benefits from an annuity after the annuitant dies. You can choose one beneficiary or several, and specify how much each one will receive of any remaining annuity value. You can also name a trust, your estate, or even a charity or non-profit to be your beneficiary. If you name a minor as a beneficiary, they may not have access to an inherited annuity until they are of legal age.

You choose your beneficiaries when you buy an annuity, but you can usually change them later. If you don’t specify a beneficiary, any funds or outstanding payments owed to you will go to your estate and will go through probate (the legal process of distributing a person’s estate after they die). In some cases, death benefits may actually be forfeited if you don’t name a beneficiary.

Who Should You Choose as a Beneficiary?

It comes down to deciding who you would like to receive any remaining benefits from your annuity. Most people choose family members or other loved ones. Often, people choose those who may be financially dependent on them as thier beneficiaries — spouses, partners, and children are the most commonly named beneficiaries.

Beneficiary Payout Options

After an annuitant’s death, your beneficiary typically can choose between several payout options:

• Lump-sum distribution. Your beneficiary can opt to receive their annuity benefit in a single lump-sum payment.
• Periodic payments. Or, they can opt to receive it in several payments over time.

Note that beneficiaries must receive their annuity funds within a specified time period. If the annuity is held in an individual retirement account (IRA), beneficiaries have up to 10 years to withdraw all of the funds. If it is held outside of an IRA, they have only five years (this is called the “five-year rule”).

Beneficiary Taxes

The payout can have implications on the taxes that beneficiaries pay. Annuities are not tax-free products, they are tax-deferred products. That means that you pay ordinary income taxes when you begin to receive distributions from annuities. Those taxes apply to beneficiaries too: when they begin to receive distributions from an inherited annuity, they will have to pay any applicable income taxes.

If a beneficiary chooses a lump sum payment, they may be pushed into a higher tax bracket and have to pay a higher tax rate on that money. That’s why many beneficiaries prefer to instead receive their annuity distributions as regular payments over time. Spreading the payments out can result in lower incomes in any given year, and a lower tax rate.

Note, too, that there are tax consequences depending on whether the annuity was bought with qualified or non-qualified funds; i.e. whether it was funded with pre-tax dollars or with money that had already been taxed.

The Bottom Line

Annuities are powerful retirement planning products, but many people also buy them as legacy planning tools. They offer guaranteed income in retirement, and any remaining funds can be passed on to loved ones.

Not all annuities are passed on. It depends on what kind of payout options are chosen and whether the annuity has death benefits. To make sure that your annuity will be passed on when you die, read the fine print of any annuity you choose or ask an annuity expert.

Canvas Annuity knows how important it is for retirees to plan not just for their financial well-being, but also for the financial security of their families. That’s why we include death benefits in all our annuity products. If you have any money remaining in your annuity account here at Canvas, you can feel secure knowing that it will be passed on to your beneficiary.

If you have any questions about what happens to an annuity you buy from Canvas when you die, you can talk with our licensed reps. They’ll be happy to explain.

If you’re ready to buy an annuity, apply now.