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What is a 401k Annuity?

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  • Written By: D. Waldman
  • Edited By: Lauren Fritsky
  • Last Modified Date: 06 October 2018
  • Copyright Protected:
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    Conjecture Corporation
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In its simplest form, many people describe a 401k annuity as a hybrid between pension plans and standard 401k investments. It offers the individual the opportunity to pay a fixed amount each month into her retirement plan, which is then used to buy into an annuity. Upon retirement, the annuity pays a flat amount each month to the individual for the remainder of his life. With traditional pension plans slowly fading from existence and the investment market behind 401k savings plans remaining volatile, many people are turning to the 401k annuity option to ensure a comfortable and secure retirement in their later years.

A 401k annuity is seen as a hybrid retirement option for several reasons. A traditional pension program is designed to pay employees a fixed amount per month upon retirement based on the number of years they have worked and the amount of money they made during that time. A 401k plan allows an employee to contribute a variable amount of the income on a tax-free basis during her employment, which is later paid out as a lump sum upon retirement. A 401k annuity requires the same employee contributions as a traditional 401k plan does; however, upon retirement, the funds are paid out on a fixed monthly basis, as opposed to a lump sum payment.

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The payout structure of a 401k annuity can be beneficial for several reasons. While lump sum payouts at retirement may seem more attractive to some, others feel it is easier to manage their retirement money when it is being distributed on an installment basis. This prevents impulse spending on costly items, while also eliminating the risk of retirement funds being exhausted too early. By choosing a 401k annuity, the employee is guaranteeing a fixed monthly retirement income for the extent of his life.

If an employee is willing to pay a slightly higher rate for her 401k annuity, there are also several other benefits to this form of retirement savings. Some annuities can be purchased with a built-in death benefit. This added features allows for the monthly benefits to continue to be paid to a spouse or child for a certain period of time upon the employee's death. A 401k annuity can also come equipped with both a partial lump sum payout at retirement in addition to the ongoing monthly payments, which essentially offers the employee the best of both worlds when retirement age is reached. For annuities that don't offer this option, the same payout structure can also be achieved by splitting the monthly retirement savings contribution between a standard 401k savings plan and an annuity plan.

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