What is an annuity and how does it work?

It's difficult to determine just how much money you'll need in retirement when you can't predict the future. Some people worry they'll outlive their savings, while others may fear they're living too conservatively and not enjoying their money.

Either way, 45% of Americans said they were financially ready to retire, or felt financially prepared before leaving the workforce, according to a survey published in 2025 by annuity insurance company Empower.

"When you think about retirees of the past, many had pension plans from their employers and, through that, a guaranteed income stream," said Elle Switzer, director of annuity product management at insurance and financial services company TruStage. "That doesn't exist for most of us anymore."

One way to help maintain a regular income in your golden years is to purchase an annuity, a financial product you pay into once or for several years. In turn, an annuity creates a guaranteed income stream that can be used later in life.

An annuity is a contract between you and a life insurance company, in which you pay a lump sum or make a series of payments. The insurer invests that money in the market. In return, you receive a guaranteed income stream, either immediately or several years after you start the contract. Some types of annuities that are tied to market performance have a guaranteed minimum interest rate floor. While there is also a cap limit on growth, this minimum floor can make annuities a good option for conservative investors who don't want to take on much risk.

Banks, fintechs and brokerage firms also sell annuities. You can purchase annuities that start paying you back immediately, but most annuities are deferred — meaning that you pay now and get income years down the road.

There are annuities with minimum initial payments of $100,000 or more, and some as low as $2,500. The more you deposit, the larger your monthly payments will be.

There are three main types of annuities.

Fixed annuity

A fixed annuity offers a flat rate of return, regardless of what happens with the market or inflation. Fixed annuities offer peace of mind and few or no fees, though they typically don't pay out as much as variable accounts.

Variable annuity

A variable annuity is invested in stock funds that typically keep pace with inflation. The payouts could be higher, but so is the risk — if the market drops, your payments decline. It could take decades for you to make back your initial investment.

"You're not going to run out of money but it can continue to go lower if the market continues to go lower," said Evan Potash, a wealth management advisor at financial services company and annuity provider TIAA. "If you look at markets over the long term, though, they tend to go up much more than they go down."

If you opt for a variable annuity, be sure you can still afford your regular expenses even if your payouts decrease.

Indexed annuity

An indexed annuity is invested in a market index, like the S&P 500 or the Dow Jones Industrial Average, which include shares of top companies. Like a variable annuity, an indexed annuity is designed to keep pace with inflation and secure your purchasing power for life.  

When shopping for an annuity, consider the company's financial stability and reputation for customer service. These companies all rank among the top 10 annuity sellers of the third quarter of 2025, according to the Life Insurance Marketing and Research Association (LIMRA) — the most recent data available in December 2025 — and have high customer satisfaction scores from J.D. Power.

• Best for fixed annuities: Athene
• Best for variable annuities: Nationwide
• Best customer service: F&G Annuities & Life
• Best for guaranteed income: MassMutual
• Best for low minimum: New York Life
• Best for shorter surrender period: Pacific Life

Best for fixed annuities

Athene sold the second most annuities of any company in the second quarter of 2025. Athene Agility annuities also include a death benefit rider at no additional charge. 

Best for variable annuities

Nationwide touts over 100 investment options, many of which come with low fees and the ability to withdraw up to 10% annually without incurring a penalty. In 2025, the brand scored above average for customer satisfaction, according to J.D. Power.

Best for customer service

Dating to 1851, MassMutual offers fixed, variable and index-based annuities, along with both deferred and immediate options. It ranked among the top five brands for customer satisfaction with J.D. Power.

Best for low minimums

While some annuities require initial deposits of $100,000 or more, New York Life's floor is a modest $10,000. Annuities are available in all 50 states, Washington, D.C., and Puerto Rico. The brand also scored well above average in customer satisfaction and received fewer complaints than other companies of its size, according to the National Association of Insurance Commissioners.  

Best for shorter surrender period

Annuities typically have long windows when you'll face a penalty for withdrawing money, called surrender periods, that can be as long as 10 years. Penalties for withdrawals can be as high as 20% of your contributions. Pacific Life's Pacific Choice has a surrender period of five years, coupled with more than 90 investment options and low fees.

The period after you purchase an annuity and it starts to earn interest is known as the accumulation phase.

Accounts that pay out right away are called immediate annuities. They can be a good choice if you're close to (or already in) retirement. Since they don't have as much time to accumulate interest, though, the payments may be smaller.

Deferred annuities do not pay out for several years. These annuities typically have a surrender period, during which you'll be charged a fee if you withdraw funds. Most deferred annuities have a surrender period of between two and eight years, but some can last 10 years or longer.

Even after the surrender period expires, if you make a withdrawal before age 59.5, you'll be hit with a 10% IRS penalty. In fact, most financial advisors recommend leaving an annuity untouched until your late 60s or early 70s. Interest earned on a deferred annuity isn't taxed until you make a withdrawal.

Once you reach your annuitization phase, you'll start receiving payments annually, monthly or quarterly, depending on the annuity you bought.

Annuity returns depend on several factors, including the type of annuity you purchased, the amount you invested and the guaranteed rate for a fixed annuity or the performance of the index for a variable annuity.

Fixed annuities have a 5% to 7% annual return, while variable annuities can see returns between 6% and 8%.

However, fees typically range from 1% to 3% of your account balance. These fees cover administrative costs, trading fees, commissions, premium taxes, surrender charges and other expenses. The more complicated an annuity, the more expensive the fees: A variable annuity, which requires more investor oversight, will have a higher charge than a simple fixed annuity.

Riders can add to your expenses, but they can help your annuity better withstand economic downturns or fit your goals. In general, the more value a rider adds, the more expensive it will be.

Common annuity riders include:

• Guaranteed minimum income: Prevents your income from dropping below a certain threshold
• Guaranteed lifetime withdrawal: Lets you bypass the deferral period and use your annuity account as an emergency fund. 
• Enhanced death benefit: Ensures beneficiaries receive a lump sum or continuation of payments after you die, up to a predetermined amount or the remaining value of the contract. 
• Long-term care annuity: A deferred annuity that can be paid out as usual or to cover expenses relating to your care if you're diagnosed with a chronic or terminal illness.
• Cost-of-living rider: Automatically adjusts payments to keep up with inflation
• Impaired risk rider: Fast-tracks payouts if you're diagnosed with a condition expected to shorten your lifespan.

As with any investment product, annuities have their benefits and drawbacks.

Pros

• Regular payments: Annuities are structured to offer continuous, guaranteed payments.
• Lifetime income: Outliving your savings is a major concern in retirement. Annuities can come with riders that ensure regular payments for the rest of your life.  
• Guaranteed rate of return: Fixed and indexed annuities can have guaranteed minimum rates of return, no matter what happens in the markets.
• Tax advantages: Money in an annuity grows tax-deferred, so you only pay taxes when you start taking payments.

Cons

• Higher fees: Fees and commissions for annuities can be more than other retirement products, like IRAs or 401(k) plans.
• Restricted access: Deferred annuities have a surrender period, a number of years during which you can't access funds without paying a stiff penalty.
• Complex: Even savvy investors can find annuities complicated to understand.
• Limits on returns: Your annuity won't lose money, but, in return, annuity companies put a cap on how much they can earn.

If you like the idea of steady payments and not having to monitor your investments closely, an annuity could be right for you.

It's important to remember, however, that you won't be able to touch those funds for years, which could leave you in a jam if you're facing an unexpected financial emergency. Potash recommends having about two-thirds of your savings in a guaranteed account, like an annuity, and another third in readily accessible cash.

And an annuity alone probably won't cover all your expenses in retirement. It's just one component of an entire retirement portfolio, said Switzer, along with a 401(k) plan, an IRA and other accounts.

"Annuities can really just be another investment vehicle," Potash said. "It's an investment that has some guarantees, which works very well for some people."

At CNBC Select, we work with experts who have specialized knowledge and authority based on relevant training and/or experience. For this story, we interviewed Elle Switzer, the director of annuity product management at TruStage, and Evan Potash, an executive wealth management advisor at TIAA.

At CNBC Select, our mission is to provide our readers with high-quality service journalism and comprehensive consumer advice so they can make informed decisions with their money. Every investing article is based on rigorous reporting by our team of expert writers and editors with extensive knowledge of financial products. While CNBC Select earns a commission from affiliate partners on many offers and links, we create all our content without input from our commercial team or any outside third parties, and we pride ourselves on our journalistic standards and ethics. See our methodology for more information on how we choose the best annuities.

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