What type of annuity is based on the performance of its underlying investment funds?

A variable annuity is designed to provide returns that depend on the performance of the underlying investment funds chosen by the policyholder. In a variable annuity, the owner can invest in a variety of investment options, such as stocks, bonds, or mutual funds, and the value of the annuity will fluctuate based on the performance of these investments. This allows for the potential of higher returns compared to fixed annuities, which offer set rates of interest.

The key characteristic of variable annuities is that they offer the policyholder the opportunity for investment growth while also exposing them to market risks. This investment performance is reflected in the annuitant's account value, reinforcing the connection between investment performance and the payout amount.

In contrast, fixed annuities guarantee a specific payout and interest rate, indexed annuities provide returns linked to a stock market index with a level of principal protection, and immediate annuities begin payments almost immediately after a lump-sum investment, but do not base payments on investment performance. Thus, the variable annuity's structure is unique in that it directly ties the value and potential income to market performance and investment choices.