9.3 Immediate vs. Deferred and Single vs. Flexible Premium
Key Takeaways
- A Single Premium Immediate Annuity (SPIA) is bought with one lump sum and begins income within about 12 months; there is no accumulation phase.
- Deferred annuities have an accumulation phase before income begins, allowing tax-deferred growth.
- Single-premium contracts take one payment; flexible-premium contracts accept varying ongoing deposits, so they must be deferred.
- A flexible premium annuity cannot be immediate because ongoing deposits require a deferral period.
- Income timing (immediate vs. deferred) and funding method (single vs. flexible) are independent classification axes.
Two Independent Classification Axes
Annuities are described along two separate dimensions. One axis is when income begins (immediate vs. deferred). The other is how the contract is funded (single premium vs. flexible premium). Keeping these axes separate is the key to the questions in this section.
| Axis | Options | Question It Answers |
|---|---|---|
| Income timing | Immediate / Deferred | When do payments start? |
| Funding method | Single / Flexible premium | How is money paid in? |
Immediate Annuities (SPIA)
An immediate annuity begins income payments within roughly one payment interval of purchase, conventionally within 12 months. Because income starts almost at once, there is no accumulation phase. Immediate annuities are funded by one lump sum, so they are called Single Premium Immediate Annuities (SPIAs).
A SPIA is a common choice for a retiree who already has a lump sum, such as a pension distribution or proceeds from selling property, and wants an income that cannot be outlived starting now.
Exam Tip: Immediate annuities are always single-premium. You cannot keep adding deposits to a contract that is already paying you income.
Deferred Annuities
A deferred annuity has an accumulation phase: income begins at a future date (months or decades later), allowing value to grow tax-deferred in the interim. Deferred annuities can be funded two ways:
- Single Premium Deferred Annuity (SPDA): one lump-sum deposit that grows until a later payout election.
- Flexible Premium Deferred Annuity (FPDA): ongoing, variable deposits over time, then a later payout.
Deferred contracts are where surrender charges and the 10% early-withdrawal penalty before age 59 1/2 matter most, because there is a multi-year window before income normally begins.
Why Flexible Premium Must Be Deferred
A flexible premium annuity accepts deposits of varying amounts on a varying schedule. To accept ongoing deposits, the contract needs an open accumulation phase, which only a deferred annuity has. Therefore a flexible premium contract is always deferred there is no such thing as a flexible premium immediate annuity.
The Valid and Invalid Combinations
| Funding \ Timing | Immediate | Deferred |
|---|---|---|
| Single premium | SPIA (valid) | SPDA (valid) |
| Flexible premium | Not possible | FPDA (valid) |
Trap: The exam offers "flexible premium immediate annuity" as a distractor. It does not exist.
A client wants to deposit varying amounts each year over the next 20 years, then start income at retirement. Which annuity structure fits?
Putting It Together: Choosing a Structure
| Client Situation | Likely Structure | Reason |
|---|---|---|
| Retiree with a lump sum needing income now | SPIA | Immediate income, no deferral needed |
| Saver with a windfall, income years away | SPDA | One deposit grows tax-deferred |
| Worker contributing payroll amounts over time | FPDA | Accepts recurring variable deposits |
Note how the funding method follows the client's cash flow (one sum vs. recurring), while income timing follows the client's need date. Match both axes to the fact pattern rather than memorizing a single product name.
Which statement about immediate annuities is correct?
The Accumulation Phase in Detail
During the accumulation (pay-in) phase of a deferred annuity the insurer credits interest and the value grows tax-deferred no 1099 is issued until money comes out. Two numbers control growth:
- The guaranteed minimum rate stated in the contract (often 1%-3%), which the insurer can never credit below.
- The current rate the insurer actually declares, which may be higher and is reset periodically.
The owner can stop, reduce, or skip flexible-premium deposits without lapsing the contract, because there is no required pay-in schedule the way a life policy has a premium. That flexibility is why FPDAs are popular for retirement saving outside an employer plan, and why an FPDA can never be an immediate annuity.
Surrender Charges and Withdrawal Rules
Deferred annuities almost always carry a surrender-charge schedule a declining penalty on amounts withdrawn during the early contract years. A typical schedule starts near 7%-8% in year 1 and steps down to 0% after 7-9 years. Most contracts also allow a free withdrawal each year (commonly 10% of value) without a surrender charge.
| Contract Year | Sample Surrender Charge |
|---|---|
| 1 | 7% |
| 2 | 6% |
| 3 | 5% |
| 7 | 1% |
| 8+ | 0% |
Separately, the IRS 10% premature-distribution penalty applies to the taxable portion of any withdrawal before age 59 1/2, regardless of the insurer schedule. Example: a client age 50 withdraws $10,000 of gain from an SPDA the gain is ordinary income and the IRS adds $1,000 (10%), plus any insurer surrender charge still in effect.
Exam Tip: Surrender charges are the insurer's early-exit penalty; the 10% penalty is the IRS's age-based penalty. Both can apply to the same withdrawal.
A 52-year-old surrenders a deferred annuity in its third year and withdraws an amount that includes $8,000 of gain. Which charges can apply?
Matching Funding and Timing to a Client Need
Because funding (single vs. flexible) and timing (immediate vs. deferred) are independent, four combinations exist but only three are valid. Use this decision logic on exam scenarios:
- Lump sum + income now -> SPIA (single premium immediate).
- Lump sum + income later -> SPDA (single premium deferred).
- Recurring deposits + income later -> FPDA (flexible premium deferred).
- Recurring deposits + income now -> impossible (the distractor answer).
A flexible-premium contract must keep an open accumulation phase to accept deposits, and an annuity already paying income has no accumulation phase that is the core logic the exam tests repeatedly. Read each scenario for two clues: how the money goes in, and when income must start.
Exam Tip: Whenever an answer choice says "flexible premium immediate annuity," eliminate it it cannot exist.