A variable annuity is an insurance contract where your returns and eventual income payments fluctuate based on the performance of investment options you choose—typically mutual fund-like subaccounts invested in stocks, bonds, or other securities. Unlike a fixed annuity with guaranteed returns, a variable annuity gives you the potential for higher growth but also exposes you to market risk.

Here's how it works: During the accumulation phase, you allocate your contributions among various investment options offered within the annuity. Your account value rises and falls with market performance, similar to a 401(k) or IRA. When you're ready to receive income, your payment amounts will depend on how well your investments performed, though many variable annuities offer optional riders that can guarantee minimum income levels or death benefits for an additional fee.

Variable annuities are complex products that combine investment features with insurance protections, and they typically come with multiple layers of fees—insurance charges, investment management fees, administrative costs, and additional charges for optional riders. These fees can significantly impact your returns over time. While variable annuities offer tax-deferred growth and the potential for market-based returns, they're not right for everyone. It's essential to understand all the costs and whether the insurance features justify the expense compared to other retirement investment options.