The accumulation period refers to the time during which your retirement savings accumulate in a deferred annuity. Because annuities are federal income tax deferred, all earnings are reinvested to increase the base on which future earnings accumulate, so you have the benefit of compounding.
When you buy a deferred fixed annuity contract, the company issuing the contract promises a fixed rate of return during the accumulation period regardless of whether market interest rates move up or down. With a deferred variable annuity, the amount you accumulate during the accumulation period depends on the performance of the separate account funds you select from among those offered in the contract, in addition to the rate of interest credited from time to time on any amounts that may have be allocated to the Interest Accumulation Account.
At the end of the accumulation period, you can choose to annuitize, agree to some other method of receiving income, or roll over your account value into an immediate annuity. The years in which you receive annuity income are sometimes called the distribution period.
Accumulation units are the shares you own in the separate account funds of a variable annuity during the period you're putting money into your annuity. If you own the annuity in a 401(k) plan, each time you make a contribution, that amount is added to one or more of the separate account funds to buy additional accumulation units.
The value of your annuity is figured by multiplying the number of units you own by the dollar value of each unit. During the accumulation phase, that value changes to reflect the changing performance of the underlying investments in the separate account funds.
Adjusted gross income (AGI)
Your AGI is your gross, or total, income from taxable sources minus certain deductions. Income includes salary and other employment income, interest and dividends, and long- and short-term capital gains and losses. Deductions include unreimbursed business and medical expenses, contributions to a deductible individual retirement annuity (IRA), and alimony you pay.
You figure your AGI on page one of your federal tax return, and it serves as the basis for calculating the income tax you owe. Your modified AGI is used to establish your eligibility for certain tax or financial benefits, such as deducting your IRA contribution or qualifying for certain tax credits.
Amortization is the gradual repayment of a debt over a period of time, such as monthly payments on a mortgage loan or credit card balance. To amortize a loan, your payments must be large enough to pay not only the interest that has accrued but also to reduce the principal you owe.
Annual percentage rate (APR)
A loan's annual percentage rate, or APR, is what credit costs you each year, expressed as a percentage of the loan amount. The APR, which is usually higher than the nominal, or named, rate you're quoted for a loan, includes most of a loan's up-front fees as well as the annual interest rate.
You should use APR, which is a more accurate picture of the cost of borrowing than the interest rate alone, to compare various loans you're considering.
When you annuitize, you choose to convert the assets in your deferred annuity or other retirement savings account into a stream of regular income payments that are guaranteed to last for your lifetime or the combined lifetimes of yourself and another person, called your joint annuitant. You typically annuitize when you retire. But, if you own a nonqualified annuity, you may begin receiving income at 59½ without risking an early withdrawal penalty, or you can postpone the decision to annuitize well beyond normal retirement age.
One reason people may give for choosing not to annuitize is that they're afraid if they die shortly after they begin receiving payments, they will forfeit a large portion of the annuity's value. To avoid that situation, some people choose to annuitize with what's called a period certain payout guaranteeing that they or their beneficiaries will receive income for at least a minimum period, typically 5, 10, or 20 years.
You should be aware that the promise to pay lifetime income is contingent on the claims-paying ability of the company providing the annuity contract. That's why you'll want to check the ratings that independent analysts give your annuity company before you annuitize your contract.
Originally, an annuity simply meant an annual payment. That's why the retirement income you receive from a defined benefit plan each year, usually in monthly installments, is called a pension annuity. But an annuity is also an insurance company product that's designed to allow you to accumulate tax-deferred assets that can be converted to a source of lifetime annual income.
When a deferred annuity is offered as part of a qualified plan, such as a traditional 401(k), 403(b), or tax-deferred annuity (TDA), you can contribute up to the annual limit and typically begin to take income from the annuity when you retire. You can also buy a nonqualified deferred annuity contract on your own. With nonqualified annuities, there are no federal limits on annual contributions and no required withdrawals, though you may begin receiving income without penalty when you turn 59½.
An immediate annuity, in contrast, is one you purchase with a lump sum when you are ready to begin receiving income, usually when you retire. The payouts begin right away and the annuity company promises the income will last your lifetime.
With all types of annuities, the guarantee of lifetime annuity income depends on the claims-paying ability of the company that sells the annuity contract.
The annuity principal is the sum of money you use to buy an annuity and the base on which annuity earnings accumulate. If you're buying a deferred annuity, you may make a one-time — or single premium — purchase, or you may build your annuity principal with a series of regular or intermittent payments. For example, if you own an annuity in an employer sponsored retirement plan, you add to your principal each time you defer some of your income into your account — typically every time you're paid. When you buy an immediate annuity, you commit your annuity principal as a lump sum, and that amount is one of the key factors that determines the amount of your annuity income.
When an asset such as stock, real estate, or personal property increases in value without any improvements or modification having been made to it, that's called appreciation. Some personal assets, such as fine art or antiques, may appreciate over time, while others - such as electronic equipment - usually lose value, or depreciate. Certain investments also have the potential to appreciate. A number of factors can cause an asset to appreciate, among them inflation, uniqueness, or increased demand.
Assets are everything you own that has any monetary value, plus any money you are owed. They include money in bank accounts, stocks, bonds, mutual funds, equity in real estate, the value of your life insurance policy, and any personal property that people would pay to own. When you figure your net worth, you subtract the amount you owe, or your liabilities, from your assets. Similarly, a company's assets include the value of its physical plant, its inventory, and intangible assets, such as its reputation.
Asset allocation is a strategy, advocated by modern portfolio theory, for reducing risk in your investment portfolio in order to maximize return. Specifically, asset allocation means dividing your assets among different broad categories of investments, called asset classes. Stocks, bonds and cash are examples of asset classes, as are real estate and derivatives such as options and futures contracts.
Most financial services firms suggest particular asset allocations for specific groups of clients and fine-tune those allocations for individual investors. The asset allocation model - specifically the percentages of your investment principal allocated to each investment category you're using - that's appropriate for you at any given time depends on many factors, such as the goals you're investing to achieve, how much time you have to invest, your tolerance for risk, the direction of interest rates, and the market outlook.
Ideally, you adjust or rebalance your portfolio from time to time to bring the allocation back in line with the model you've selected. Or, you might realign your model as your financial goals, your time frame, or the market situation changes.
Different categories of investments are described as asset classes. Stocks, bonds, and cash — including cash equivalents — are major asset classes. So are real estate, derivative investments, such as options and futures contracts, and precious metals.
When you allocate the assets in your investment portfolio, you decide what proportion of its total value will be invested in each of the different asset classes you're including.
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