What is an Annuity - Types, Plans, Taxation, Calculation, How they Work

Manish Kothari
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Manish Kothari

What is an Annuity?

An annuity is a contract which offers regular payouts to the subscribers for a specified period on a lump-sum investment at the beginning of policy tenure. The Life Insurance company invests the principal received from the annuity holder & makes regular payments as specified, from the returns generated on investments.

Annuity is very helpful for individuals like senior citizens who need regular & steady income to meet their financial needs after retirement. This way, the individuals are able to gain returns from their investment along with getting fixed payouts every month or year. 

Types of Annuity

There are basically two main types of annuities available in India on the basis of their payouts which can be immediate or deferred. Let's have a look at their meanings:

Immediate Annuity Plans 

As the name suggests, Immediate annuity plans are those annuity plans which start making payouts immediately on a lump-sum investment made by an investor. So, there's no accumulation phase & the plan starts working immediately as soon as the initial investment is made.

The tenure of annuity payouts can be for a lifetime or a specified period which depends upon the plan selected by the subscriber. These immediate plans are suitable for individuals who have retired recently and want to put their retirement money for buying a pension or an annuity plan which could offer regular payouts.

Deferred Annuity Plans

Deferred Annuity Plans are those annuity plans in which the payouts do not start immediately after the investment rather they start after a specified time period. In simple words, these plans accumulate money at the first stage through the premium payments or lump-sum investment made by subscribers. After the accumulation phase is over as per the decided tenure, the life insurance company starts making annuity payouts for the planned period. The period for which the annuity payments are deferred or postponed is called the deferment period.

Different types of Annuities & How do they work?

Now, there are different types of annuity plans having varied characteristics which can be opted for by annuity buyers as per their requirements. The plans are:

  • Life Annuity

Life Annuity makes regular annuity payouts to the individual during his lifetime. The annuity stops after the death of the person. 

Payouts can be monthly, quarterly, semi-annual, or annual as per the chosen option.

  • Life Annuity with return of purchase price

Here, Annuity payments will be made to subscribers during their lifetime after a lump-sum investment. After their death, annuity payments will stop & the initial lump sum investment made by the subscriber will be paid out to the nominee.

  • Annuity for a guaranteed tenure

In these annuity plans, annuity payments will be made for a predefined guaranteed period of time i.e say 5,10 or 15 years. In case of death of the annuity subscriber during the tenure, the annuity payments will be made regularly to the nominee till the completion of the guaranteed period.

  • Increasing Annuity Payout Plans

In this type of annuity, the annuity payable increases every year or periodically at a fixed rate i.e 5%,10%, etc. These plans aim to compensate for the increasing expenses by offering higher payouts after a defined period. 

  • Joint Life Annuity

In a Joint life annuity plan, the subscribers are offered regular annuity payouts till their death. After his/her death, the annuity payments are made to the spouse of the subscriber.

  • Joint Life Annuity with return of purchase price

These plans offer regular annuity payments to the subscriber till his/her death. After death, the annuity income is paid to the spouse of the subscriber.

In case of death of both holders, the nominee is paid back the initial lump-sum investment made by the subscriber.

Other Types of Annuity

Following are some other types of annuity schemes. However, as of now, these schemes are not available in India.

1. Multi-Year Guarantee Annuity

 In this type of annuity, the company guarantees the annuity holder to grow their invested amount at a fixed rate for a specific number of years. This type of annuity is considered tax-deferred.

2. Fixed Index Annuity:

 In this annuity, the investment amount grows on the basis of the performance of the stock market. But the company limits our potential losses and also limits the gains. This type of annuity is good for the person who can take a little risk with a good and fixed return payout.

3. Variable Annuity: 

In this annuity, the premiums collected are invested in the stock market by the insurance companies. This annuity doesn’t offer a guarantee of the payouts as the name of the annuity also suggests. The payouts here depend on the performance of the investment portfolio.



Annuities are intended to include the value of pension payouts and are viewed as equivalent to a monthly wage or income for the purpose of income tax calculations. Thus, annuity payments are added to income and taxed as per the slab rate applicable to an individual.

Annuity Calculation 

The general formula for annuity variation is-

Present Value of Annuity:

PV = P × 1 − (1+r)−n / r


P is the value of each payment

r is Interest Rate per period

n is number of periods

This formula is used to calculate the present value of an annuity.

Frequently Asked Questions.

1. What is an Annuity?

An annuity is a contract wherein a fixed sum of the amount is paid to the annuity holder at regular intervals for a specified period of time.

2. How is annuity taxed?

As in annuity we get regular payouts at regular intervals, so, the payment is considered as an income for taxation purposes. Therefore, the payouts are added to the annual income of individuals which is taxed as per the slab rate under the Income Tax Act, 1961.

3. What is the difference between Immediate and deferred annuity?

In an immediate annuity, the payouts get started within the 12 months period  from the date of purchase. It is considered as an annuity for regular income. While in a deferred annuity, the payout gets started after a long period. It is considered as an annuity for pension income.

4. What is the difference between annuities and mutual funds?

In mutual funds, there is no guarantee of returns. The investors earn returns only when the fund in which they have invested performs well in the market. 

Whereas, most annuity schemes offer guaranteed returns as per the nature of policy. The annuity payouts start on a specified period of time.

5. What are the different types of annuity?

There are many types of annuity which are:

  1. Immediate Annuity
  2. Deferred Annuity
  3. Multi-Year Guarantee Annuity
  4. Fixed Index Annuity
  5. Variable Annuity

6. Can someone take out money from the annuity?

It depends upon the type of annuity purchased. Some annuities allow withdrawal by subscribers on certain terms and conditions. Also, in event of the demise of an annuity holder, the nominees have the option to withdraw part or whole of the purchase price as per the policy conditions.

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