Legal Definitions - variable annuity

A variable annuity is a financial contract, typically offered by an insurance company, designed to provide a stream of periodic payments to an individual, often during retirement. Unlike a fixed annuity, the amount of these payments is not guaranteed; instead, it fluctuates based on the investment performance of a chosen portfolio of underlying assets, such as stocks, bonds, or mutual funds. The money invested in a variable annuity grows on a tax-deferred basis, meaning that earnings are not taxed until the individual begins to withdraw the funds.

Here are some examples to illustrate how a variable annuity works:

• Retirement Income Planning: Sarah, a 55-year-old marketing executive, is planning for her retirement. She has maximized her contributions to her 401(k) and IRA but wants another vehicle for tax-deferred growth that will eventually provide a flexible income stream. She invests a lump sum into a variable annuity, choosing sub-accounts that invest in a mix of growth stocks and bonds. When she retires and begins taking payments, the amount she receives each period will depend on how well those chosen investments have performed. If the market has done well, her payments could be higher; if it has performed poorly, they could be lower, demonstrating the "variable" nature of the payments tied to investment success.

• Supplementing a Pension: Mark, a retired government employee, receives a stable pension that covers his basic living expenses. However, he wants to supplement his income with something that has the potential to grow with the economy and provide additional discretionary funds. He invests a portion of his savings into a variable annuity, opting for a moderately aggressive fund within it. Mark understands that his variable annuity payments will fluctuate. In years where the market performs well, his annuity payments might increase, giving him more spending power. In less favorable years, they might decrease, but he still has his stable pension as a reliable base, illustrating how the variable annuity provides market-linked income potential.

• Long-Term Growth for Future Needs: Emily, a successful software engineer, receives a large bonus and wants to invest it for a long-term goal, such as funding her future grandchildren's education or a significant personal project many years down the line. She purchases a variable annuity, selecting a diversified portfolio of mutual funds within it. She plans to let the money grow tax-deferred for 20 years before converting it into an income stream. The eventual payments she receives will be directly influenced by the cumulative performance of her chosen investments over those two decades, showcasing how the annuity's value and subsequent payments are tied to the underlying investment performance over time.