Investment In The Contract

An annuity works like this: you pay a lump sum of money now...then, at some point in the future, you start getting regular payments back. So you might pay $100,000 today, and in 20 years, when you're ready to retire, you start getting $500 a month for as long as you live.

The amount you put into the annuity is referred to as your "investment in the contract." So the term would apply to the $100,000 you paid.

The concept matters when it comes to taxes. The $100,000 you put in is principal. You don't get taxed on that money coming back to you. It's not new income. It's just your own money coming back to your account. But additional funds coming in do get taxed. That's fresh income.

Any annuity payment will get broken down to answer two questions: 1) how much is the investment in the contract?...and 2) how much is the new taxable income? So, of the $500 payment you receive, the official documentation might show that $350 is the tax-free amount, while $150 is money that you'll have to report as income.