Simply put, an annuity is a retirement account with air bags. You invest one or more lump sums and in exchange you’re guaranteed a steady monthly check for a set number of years or for life.

Issued only by insurance companies and sold by insurers, brokerages and mutual fund companies, annuities come in a range of flavors. All are marketed as investments that provide peace of mind during a period of life when fulltime work tends to slow and fears about outliving savings rise.

Annuities tend to be purchased by people under age 40, people nearing retirement age, and by professionals who use them for asset-protection purposes. But high expenses and fees can erode an annuity’s performance and value—making careful shopping and comparisons with other investments essential. For instance, for some retirement-savers, a Roth IRA might be shrewder than an annuity.

The amount you will receive monthly from an annuity depends on the type of annuity you select, how much you invest, how your investment performs prior to retirement, and the features you add on—such as choosing to have your spouse continue to receive payments if you die first.

Annuity payments are subject to income taxes. Withdrawals made before age 59 ½ are subject to taxes and a 10% penalty.

There are two broad types of annuities:

• Immediate annuity — You invest a lump sum, and the insurance company starts making regular monthly payments to you right away. You decide in advance whether the amount of your monthly check will be fixed over the life of the contract or will fluctuate (“variable”) based on the performance of the investments you select.

• Deferred annuity — You invest one or more sums with the insurance company years before your retirement date. During these years, your investments have a chance to grow, tax-deferred.

When you reach retirement age (over age 59 ½), the amount of your monthly checks will depend on the total size of your annuity portfolio.

There are three different types of deferred annuities—each with trade-offs and risks:

• Fixed deferred annuity — Your lump sum investments are placed in a low-risk asset portfolio and earn a guaranteed annual rate of return until retirement.

• Variable-deferred annuity — You invest in stock and bond funds offered by the insurance company. At retirement, your account can be worth more or less than your initial investment.

• Equity-indexed annuity — Your investment mirrors the performance of a broad stock index, such as the S&P 500. The insurance company protects against market declines by guaranteeing a minimum return on your investment.

Want to Know More?

• Do You Need an Annuity?
• Choosing an Annuity
• Grilling Guide: Questions to Ask Your Insurance Company