A Fixed Annuity is a contract between you and an insurance company. It works in a similar manner as how a certificate of deposit is a contract between you and a bank. That’s a “fixed” annuity as it guarantees a stated interest rate. And therefore carries no investment risk (as opposed to a “variable” annuity which typically invests in non-guaranteed investments).
There are two main types of fixed annuities: immediate and deferred
An immediate fixed annuity
It is what someone purchases when they want to turn a specific asset into a series of income payments. We call it immediate annuity due to this reason. Once you purchase the annuity from the insurance company. Your principal “immediately” turns into a stream of monthly income checks. That last for a certain length of time (or are guaranteed for life depending on the payout option you choose).
There’s a guarantee of income payout. And also insurance by the insurance company in this annuity. The negative side of this type of annuity is that while you may receive guaranteed monthly checks for a period of time. (or over your lifetime), the payments are typical without inflation adjustments. And the actual growth rate that you receive on your principal during this payout is usually quite low.
Furthermore, since immediate annuities are based on guaranteed calculations from the insurance company. Once you begin an immediate fixed annuity you are locking into an irreversible decision. Basically with no recovery of principal at the other end for yourself or your beneficiaries.
Deferred fixed annuity
It functions more like a certificate of deposit (CD). There come a guarantee that money for purchasing a deferred fixed annuity will receive a stated rate of return for a specific number of years. There’s a guarantee and insurance by the insurance company. And at the end of your contract term you are able to withdraw 100% of your account value without penalty.
The benefits of this type of fixed annuity are that your money grows tax-deferred. There are no annual fees. And you are allowed to make withdrawals of up to 10% of your account value every year without penalty. This withdrawal feature can in some cases make annuities more flexible than a bond or certificate of deposit. That will not allow you to access your principal. While you are allowed to take 10% out per year, you are still limited in respect to liquidity and flexibility. This counts as a negative side of this annuity.