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What is a single premium immediate annuity (SPIA)?

What is a single premium immediate annuity (SPIA)?A single premium immediate annuity (SPIA) is an investment that yields guaranteed income for the rest of your life, no matter when you make the investment.

When you invest in a SPIA, you make a very large single premium payment to the insurance company and collect a monthly payment based on that investment.

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An annuity lets you pay a lump sum to an insurer who invests that money and make monthly payments back to you. There are two kinds of SPIA investment options. You can choose a fixed SPIA or a variable SPIA.

A fixed SPIA, as the name implies, offers you the exact same payment month after month for the rest of your life starting on the month that you pay your premium. A variable SPIA is attached to a mutual fund and the rates fluctuate based on how the mutual fund is doing.

The benefit of a SPIA is that you aren’t going to run out of money with this investment. You may find that the interest rate from other types of savings or investments will be much higher than a SPIA, however, you could easily run out of money through other methods. The benefit of a SPIA is that you cannot run out of money, ever. If you invest and live for another 60 years, you will still receive your benefits.

Which one is better, a fixed SPIA or a variable SPIA?

This is an interesting question and the answer is based on how much risk you want to take with your investment. If you want a safe, solid investment then you need to choose a fixed SPIA. If you are interested in taking a risk and hoping you can get a better return on an annuity, then a variable SPIA will be the better choice.

Many insurance experts don’t recommend variable SPIA investments because of the higher risk involved. You can’t choose a set monthly payment in this case and your total benefit will depend on the rate of your mutual fund and if it is having a bad month then you will receive a reduced benefit.

When you are considering this type of investment, you are able to plan more carefully for your retirement if you choose a fixed SPIA versus a variable one. For example, before you ever even make an investment you can determine how much money you need each month to successfully pay your bills, supplement your income, travel, etc. This number is what is used to determine how much your initial investment amount will have to be to achieve this goal.

Let’s say you are a woman born in 1972 and that you want to begin supplementing your income at an amount of $3,000 a month. Your initial investment will be about $792,507 and will yield an interest rate of 3.72% based on mortality assumptions and the US Treasury yield curve. This investment amount will vary slightly depending on the insurance company you choose.

Assume that you will live for 50 more years because you are a healthy 38 year old and your family history reveals that your family members tend to live well into their 80s and 90s. If you receive $3000 a month for the rest of your life, then your total return on your investment will be $1,800,000; over twice your initial investment. There are no other investments that can guarantee this type of return on your investment.

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Now, if you are mentally doing the math in your head, you will quickly realize that your interest rate of 3.72% doesn’t come close to doubling your investment and you are right; this is the beauty of choosing a SPIA. You will receive your $3,000 no matter how long you live, that is what makes a fixed SPIA a great option.

If you are wondering how the insurance company can make money off of your investment if you are getting much more out of it than you are putting into it, the bottom line is that they aren’t. This may sound a bit morbid, but the insurance company is betting on you not living that long, basically taking a risk of their own.

You see, a SPIA, either fixed or variable, requires you to commit your money to the insurance company completely. What this means is that if you die prior to using up your initial investment, the insurance company gets to keep it. You cannot leave your benefit to a family member, even your spouse. This is actually a point of contention for many people because they want to leave an inheritance to their family. If this is important to you then this may not be the best option.

You do have the option, however, of choosing a smaller SPIA investment and then choosing other forms of investment such as IRAs, bonds, life insurance policies, etc. that you can leave to your family.

What are your tax obligations with a SPIA?

A SPIA is not tax free nor is it tax deductible. If, however, you use money that has been taxed already, such as money from a savings account, then part of your investment will be shielded from taxes for a period of time.

For example, in the scenario above, assume that you paid your one time premium from your savings account. For the first 44.4 years of your investment, 46.9% of your monthly benefit will not be taxed because the government will consider that to be a return on your principle, not on your interest. This reduces your tax burden significantly. After 44.4 years, however, the full benefit will be taxable at whatever your income tax bracket happens to be with your $3000 a month.

If you pay your SPIA premium from profits from another investment, such as an IRA, then your total benefit will be taxable from the beginning.

When should you purchase a SPIA?

You should purchase your SPIA whenever you want to receive benefits. However, you may have noticed that the scenario used above was for a 38 year old female. The reason for this is because the total premium amount doesn’t change much as you get older.

If, for example, you make the same investment at the age of 65 your initial premium amount will be $572,961. This is only a $219,546 difference and considering the difference in years between the two investments (which is almost 38 years) that simply isn’t enough of a reduction.

If you live for 28 more years, which would put you at the same age as the original scenario, then your total benefit amount would be $1,008,000 which is $792,000 less than if you invested at age 38. Naturally, you can invest at virtually any age that you would like and as this is an immediate investment, you don’t want to invest until you are ready to start receiving the money.

In addition, you can choose any benefit amount that you want as well. Your initial premium will be based on the benefit amount you choose. It will be less if you choose a smaller benefit amount and more if you choose a larger benefit amount.

The best way to purchase a SPIA is to use an annuity comparison tool to compare the rates between companies. You cannot use a comparison tool for a variable rate SPIA; instead you will have to speak directly to an agent.

If, however, you want a fixed SPIA then start with our free quote tool. It is very easy to use and you will quickly learn who can offer you the lowest premium for your investment.

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