"...they should get a bad rap. On the other hand, annuities are often not given the credit they deserve either."
Hey guys, Mike Frontera here and welcome to another edition of Retirement Insights.
So you’re in the market for an annuity, or maybe one has been recommended to you. Before you jump in, be sure that you can answer these 3 questions.
Question1:What is an annuity? Let’s hope that before you committed money to an annuity, that you have a good working knowledge of what they are. Ok, so let's start with the basics. When you buy an annuity, you're basically buying a stream of income. An annuity is a financial contract that is offered by an insurance company. Typically, you're giving the insurance company a lump sum of money, and in exchange they're promising to pay you income. Sometimes that income is for a set number of years, and
sometimes it’s for the rest of your life.
You can get an annuity that starts paying income immediately-- they're called immediate annuities. You know these insurance guys are pretty clever with the names. You can also get an annuity in which you defer the income that you receive to some point in the future. Those are called… you guessed it, deferred annuities.
Now with deferred annuities, your money is invested in any number of ways until such time that your income payments begin. The types of deferred annuities and corresponding investment choices is almost ridiculous. You have fixed, variable, indexed annuities; with all sorts of living benefit riders and death benefit riders. So figuring out which one might be best in your situation can be like ordering off a menu that’s printed in French. You cross your fingers and you hope you get something good and you hope to avoid the snail soup.
But if you remember nothing else about an annuity, know what they are at their core. That is, they are a way for you to create an income stream from a sum of money.
That brings me to the next thing you need to know.
Question 2: Is an annuity right for me?
The short answer, as always, is "it depends". Annuities are very unique. They have one key element missing from almost any other investment out there. That is that they can provide you income for the rest of your life. And that of your spouse too. One of the biggest challenges that retirees face is having to effectively spread out their investments to cover their needs for as long as they live. It’s no secret that people are living longer and as they do, the risk of running out of money
some day is a real worry. And people are right to be worried.
Back in what they call "the day" most people who retired could count on a pension to replace their paycheck when they retired. Nowadays most people don't have that. And if you're one of the millions without a company pension, then chances are your only source of protected lifetime income is Social Security. And it is for those people that finding an annuity to replace some of your basic needs is worthy of strong consideration.
When you buy an annuity, you're basically buying a pension for yourself. Imagine having your investments run dry later on in retirement. Wouldn't it be comforting to know that on top of Social Security, there was another check that was coming in the mail that month?
That's why annuities can be such a powerful tool. But, with great
power, comes great responsibility.
OK, so you know what an annuity is, and you know if one might make sense for you. We now need to answer question number 3.
Question 3: What are the downsides of an annuity?
The first thing is you really need to know is you need to work with a financial professional that you can trust.
Annuities, especially deferred annuities, can be very complex and frankly, they can be tricky. Insurance companies come up with all different kinds of ways to provide the benefits that they do. Some for example, might state that every year you wait to take lifetime income, that income will increase by a certain percentage. Say 5% per year. Well that can be very easily misconstrued by an unscrupulous broker to imply that your annuity's
investment account is increasing by 5% each year, rather than just your income benefit. I can't tell you how many times I've seen people misunderstand what they’ve purchased, and then feel like they were sold a bill of goods.
There is a very real and powerful benefit these annuities provide, but they’re not miracle cures. If the benefits you’re being offered seem too good to be true, they probably are. And that should serve as a big red flag that you may want to find someone else to help you.
As I said before, with deferred annuities you can invest your money in a number of different ways.
You need to know that while your money is invested, it is often subject to surrender charges if you happen to withdraw that money. So you need to know how those charges work and when they might be applied. In general, you should only put money into an annuity that you can commit
to keeping there for the long-term. At the very least, you need to keep it there as long as the surrender charges last!
Deferred annuities, especially variable deferred annuities, can carry high expenses too. Some of the most popular annuities are of this variety because they can be paired with a guaranteed lifetime income rider. Those riders let you to have the longevity protection of lifetime income without actually having to give up your whole purchase payment to the insurance company. Think almost like a pension where you still have access (with some surrender charges) to your investment. And you have the potential of additional growth through the investment portfolio.
But having growth potential and access to principal, paired with lifetime income protection comes at a cost. You can expect to pay 2-3%
or more for one of these contracts versus a standalone investment. So you better be darn well sure you want that protection of income because you're certainly paying for it.
Finally, there's tax considerations of annuities that you need to be aware of too. Now, if you're buying an annuity inside of an IRA or Roth IRA, the annuity generally follows the rules of that particular IRA, so that's pretty easy to understand.
If the money didn't come from an IRA though, there's a whole set of annuity tax rules that you must be informed about before putting any money into one. Some tax rules, like tax-deferred growth, can be beneficial. But others, like paying ordinary income rates on withdrawals of growth (which come out first by the way), 10% tax penalty on withdrawals of growth before age 59 1/2
and less than favorable treatment upon death, need to be explained and understood.
It's for all of these tax issues, expenses and surrender charges that annuities often get a bad rap. And when they’re sold by an annuity salesmen who would rather gloss over the downsides, and treat the upsides like a cure-all, in the hopes of getting a nice commission, they should get a bad rap. On the other hand, annuities are often not given the credit they deserve either.
Some financial planners dismiss annuities altogether, and that is a huge disservice to their clients. They look back at history and say how confident they are that your portfolio will last for your whole lifetime. But what if the future is different than the past? What if the market doesn't perform as well as they think it will? What if you live 10, 20 or 30 years longer than they think you will?
What are you gonna do if you’re 20 years into retirement and you run out of money? And that's why the annuity can be such a beneficial option.
So, do you have questions for me? Let me know. Give me a call at (518) 612-1060, or send me an email at email@example.com. Do you follow me on Facebook? I think that you should. You'll see videos like these, and get blog and article shares on everything retirement planning. Once again, thank you for joining me. See you next time.
Annuities are long-term investments designed for retirement purposes.
Variable annuities are sold by prospectus. For more complete information, please request a prospectus from your registered representative. Please read it and consider carefully a Fund's objectives, risks, charges and expenses before you invest or send money. The prospectus contains this and other information about the investment company.
Guarantees are dependent upon the claims-paying ability of the insurer and do not protect the value of the variable product portfolios, which may fluctuate. Variable contract holders are subject to investment risks, including the possible loss of principal invested.