12+ Things to Consider With Annuities

Annuities can be an essential part of your retirement planning toolkit. They are a popular financial tool designed to provide a steady income stream during retirement. 

As per the U.S. Census Bureau, the average retirement age is 66, while life expectancy is around 78.6 years. That’s quite a bit of time to exist without a regular paycheck, so it can be crucial to have a plan in place. Annuities can be an excellent way to ensure you won’t outlive your savings.

What Are Annuities?

Simply put, an annuity is a contract you strike up with an insurance company. You give them a chunk of money — either all at once (lump sum) or over time — and they promise to provide you with periodic payments for a set amount of time. It’s like saying, “I’ll scratch your back today, and you’ll scratch mine for the rest of my life… or at least for a good long while.”

At their core, annuities are contracts between individuals and insurance companies. They offer a reliable income stream, typically spanning the course of your retirement years. Essentially, you invest a sum of money with an insurance company, and in return, they provide you with regular payments, either for a fixed period or the rest of your life.

5 Benefits of Annuities for Retirement Planning:

1. Income Security: Annuities offer a guaranteed income stream, providing peace of mind during retirement.
2. Tax-Deferred Growth: By investing in annuities, your money can grow tax-deferred until you start receiving payouts, allowing for potential growth on a more considerable principal sum.
3. Lifetime Income: Certain annuities, known as immediate annuities or life annuities, provide income for as long as you live, helping to cover living expenses throughout retirement.
4. Diversification: Annuities can diversify your retirement portfolio, reducing dependence on other investment vehicles like stocks or bonds.
5. Survivor Benefits: With certain annuities, you can ensure that your spouse or beneficiaries continue to receive payments even after your passing, providing financial security to your loved ones.

How Do Annuities Work?

When you purchase an annuity, you have two primary phases: the accumulation phase and the distribution phase. 

During the accumulation phase, you invest money into the annuity, which grows over time. Once you reach the distribution phase, you can start receiving regular payments from the annuity.

Types of Annuities

Immediate annuities are where you give the insurance company a lump sum of money and start receiving payments almost immediately.

Deferred annuities allow your money to grow tax-deferred until you decide to start withdrawing, usually in retirement.

Fixed annuities offer a guaranteed rate of return, giving you a predictable payout.

Variable annuities allow you to invest your money in sub-accounts (like mutual funds). Your payout will depend on how well those investments do, so there’s some risk involved.

Indexed annuities also allow you to earn more based on the performance of a market index, like the S&P 500. These have a cap on earnings but offer some protection against losses.

Key Considerations When Buying Annuities

Taxes & Fees

Annuities have unique tax characteristics. During the accumulation phase, your money grows tax-deferred until withdrawal. When you start receiving distributions, they are generally subject to ordinary income tax rates.

However, there is a 10% early withdrawal penalty, like traditional retirement accounts, including 401(k)s or IRAs. It’s like the ‘Keep Out’ sign your mom put on the cookie jar when you were a kid.

Be aware of potential fees, such as: 

• Surrender charges, which are fees you’d pay if you decide to bail out of the annuity contract early. They can range from 7% to 20% in the first few years of the annuity contract. 
• Management fees, especially in variable annuities. 
• Riders or optional benefits, which can add costs but may not add equivalent value.

The Financial Stability of the Insurance Company 

Choose a reputable insurance company with a solid financial track record to ensure the longevity and reliability of your annuity. 

Some popular insurance companies that offer annuities:

• Prudential Financial offers a variety of annuities, including fixed, variable, and income annuities. They also provide indexed annuities that allow potential growth tied to market index performance.
• While MetLife has sold its U.S. retail advisor force, they continue to offer annuity products through financial professionals. They provide fixed and variable annuities.
• New York Life provides various annuity products, including immediate, deferred income, variable, and fixed annuities. Their products cater to various needs, from income now to income later.
• Lincoln Financial offers fixed, indexed, and variable annuities. They have options for income now and growth for future income.
• AIG (American International Group) offers a broad range of annuities, including immediate, deferred, fixed, variable, and indexed. They also provide structured annuities to balance growth potential and downside protection.
• Jackson National Life supplies variable, fixed, and fixed index annuities. They also provide a selection of optional benefits that can be added to customize your retirement income strategy.
• Nationwide offers fixed, variable, and immediate annuities. Their options help secure a steady retirement income stream, offer tax advantages, and protect your investment from market volatility.
• Allianz Life has fixed and indexed annuities. They provide multiple options for creating an income stream in retirement and opportunities for annuity growth tied to an index’s performance.

Remember that specific offerings may vary, and it’s crucial to contact these companies directly or work with a financial advisor to get the most current and detailed information.

Liquidity Needs

Consider your liquidity needs before purchasing an annuity, as it’s a long-term commitment and may not be suitable for emergency funds.

Annuities vs. IRAs

While both annuities and IRAs serve as retirement vehicles, they have distinct differences:

• Payout Structure: Annuities provide a steady income stream, whereas IRAs allow flexibility in withdrawal amounts.
• Contributions: Annuities have no contribution limits, while IRAs have annual limits depending on your age.
• Required Minimum Distributions (RMDs): IRAs mandate RMDs after reaching age 72, while certain annuities may offer exemptions from RMDs.
• Tax Treatment: Annuity distributions are subject to ordinary income tax rates, whereas Roth IRAs provide tax-free distributions if certain conditions are met.