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What is a life insurance annuity?
A life insurance annuity pays out a policy’s death benefit in a series of installments, either for a set number of years or until the beneficiary dies.
If you opt for a life insurance annuity instead of a lump sum, the unpaid portion of the death benefit will earn interest. While life insurance payouts typically aren’t taxable, you will owe taxes on the interest earned on any life insurance annuity payments.
Not all companies offer life insurance annuities. If you’re a beneficiary, ask the insurer about payout options available to you when you file a life insurance claim.
» MORE: Is life insurance taxable?
Even when a life insurance annuity is an option, many survivors opt for a lump sum payment because they need the money for immediate purposes, like funeral costs, income replacement or investments.
Life insurance annuity vs. life annuity
Life insurance annuities and life annuities are similar in that they both convert an upfront sum of money into a stream of income. But there are key differences.
A life annuity is a financial product you purchase to secure guaranteed income. It’s typically used as a retirement planning tool if you’re worried about running out of money.
With a life insurance annuity, you don’t pay money to the insurance company. When you choose a life insurance annuity, you’re basically converting a death benefit into a life annuity.
If you can’t choose a life insurance annuity as a beneficiary, you can still use your lump sum payment as a way to earn reliable income. For example, you could buy a fixed annuity, which would earn interest at a guaranteed fixed interest rate. You could also look into other fixed-income investments or work with a financial planner to create an investment portfolio based on your goals.