March 3, 2020 — 11.00pm. As an example, a 70-year-old man might receive, for $100,000, about $633 per month for the rest of his life -- that's about $7,600 per year. During the time between when you contribute funds and when you withdraw them, it’s possible that your money could grow significantly. Photo credit: ©iStock.com/Ridofranz, ©iStock.com/Casper1774Studio, ©iStock.com/Zerbor, ©iStock.com/monkeybusinessimages. In that case, you can help your beneficiaries defer funeral and burial costs with a life insurance policy. But your insurer will likely cap your gains through something called a “participation rate.” If you have a participation rate of 80%, then your investments will only grow by 80% of the amount that the index fund grew. An annuity is a contract between you and an insurance company. Here are the pros and cons. On the other hand, a variable annuity allows you to invest your money in different securities, such as mutual funds. It's also appealing because managing your own investments as you get older takes time and skill, and as you age you'll likely be less able to manage your money or perhaps less interested in doing so. Investment management fees will vary depending on how you invest with a variable annuity. But couples often choose to jointly own one, so that when one partner dies, the other will continue receiving payments until both partners have passed away. Annuities can get very expensive. For one thing, it's much more of a sure thing. Income for your spouse So what types of pros and cons do annuities carry? That means you can contribute money before you pay taxes. In addition, the safety of an annuity is enticing, but their returns can sometimes be weaker than what you might earn through traditional investing. Variable annuities operate under withdrawal rules similar to individual retirement accounts and 401 (k) plans — meaning there is often a penalty for early withdrawals. For some, the PROs will … The insurance company will then invest your money. We’ve outlined them below to help you get started. The first concern is that you are giving up access to your money in exchange for the income stream. Annuities are insurance contracts designed to supplement retirement income. Before focusing on fixed-indexed annuities’ pros and cons, it is important to understand how annuities work. With $300,000, he could get about $22,788 annually, which is a rather meaningful sum. All annuities have the same two-part structure: Accumulation period. Like all major decisions in life, it is best to consider the fixed index annuity pros and cons before purchasing an indexed annuity. For an additional fee, you can often purchase optional features, called riders, that can provide income guarantees, which can give some stability when there’s … Once you contribute the money to fund an immediate annuity, you cannot get it back or even pass it on to a beneficiary. Annuities are among the most recommended investment products for older Americans, but few individuals really understand them. However, there are potential cons for you to keep in mind. Bank of America® Travel Rewards Visa® Credit Card Review, Capital One® Quicksilver® Cash Rewards Credit Card Review, Speak with a financial advisor in your area, retirement planning moves for late starters, 7 Mistakes Everyone Makes When Hiring a Financial Advisor, 20 Questions to Tell If You're Ready to Retire, The Worst Way to Withdraw From Your Retirement Accounts. But they also provide an extra perk: a death benefit. However, such lifetime pay-outs are not a standard feature for all annuities, and it may actually require the purchase of a riderthat likely comes wit… Pros. As a result, annuities have become increasingly popular in light of their advantages. Others are designed to only pay you for a certain period, such as 10 or 20 years. Fixed Index Annuities: Pros and Cons. The stock market will make gains in a good year. As an example, a 70-year-old man might receive, for $100,000, about $633 per month for the rest of his life -- that's about $7,600 per year. Many annuities charge annual fees. Understand the pros and cons of buying an annuity to decide if it's the right option for you. You aggressively invest your money and on the anniversary of your annuity’s start date, your investments are worth $125,000. Your death benefit would then be $125,000, even if your investments decline in value for the rest of your life. For context, managed mutual funds will often charge around 1% to 1.5% per year, while ETFs (exchange-traded funds) will often charge 0.50% or less. Your insurance company could limit withdrawals particularly during the early years of your contract. On top of the fact that you can’t get your money back, your benefits will disappear when you die. These include: Nothing in the financial sphere is immune to disadvantages, and annuities are no exception. Putting away money for retirement isn’t easy. Even if that sounds like you, an annuity might not necessarily be the best option. Variable annuities, meanwhile, tie the performance of the annuity to the performance of the overall market or some other basket of securities. This type of growth is similar to how 401(k) contributions grow. Variable annuities offer market exposure but often have high costs. From these earnings, the insurance company will make regular payments to you, again in the form of a lump sum or payments over time. Just about all of us will need income in retirement, and one often-overlooked source of it is annuities. The pros and cons of buying an annuity. So the bottom line is that you shouldn’t get an annuity until you know it is the right move for you. Cumulative Growth of a $10,000 Investment in Stock Advisor, The Pros and Cons of Annuities @themotleyfool #stocks, How the 52-Week Saving Challenge Could Make You Much Richer by the End of 2021, 3 Mortgage Refinance Strategies to Consider in 2021, Here's What to Know About Pfizer's 'Extra' COVID Vaccine Doses, 3 Financial Gifts to Give Your Kids This Holiday Season, Copyright, Trademark and Patent Information. Market data powered by FactSet and Web Financial Group. It may be possible for you to move your money into another annuity plan, but doing so could also leave you subject to fees. If you don't see a commission fee broken out for you, that doesn't mean it's not there. If inflation averages 3% over 20 years, it can eventually cut your purchasing power in half! Variable annuities allow consumers to choose from investment options that may have greater earnings potential than a fixed annuity. 2. Annuities have unique pros and cons. What are the pros and cons of annuities- Annuities pros and cons really any good? Annuities can deliver regular installments of income. There are plenty of annuity providers and many have advantages and disadvantages to the terms of their annuity agreements. Well, you can purchase an immediate annuity (also known as a single premium immediate annuity or SPIA), which provides exactly that! For example, the fees charged in conjunction with some annuities can be rather overbearing. Because annuities pay out gradually, you will have a steady cash flow over the course of your retirement. She also prepares the Fool's syndicated newspaper column and has written or co-written a number of Fool books. At the same time, your investments will not grow by the same amount that the stock market grew. This article was updated on April 7, 2018. Let us first look at the pros. How Much Do I Need to Save for Retirement? Adding better death benefits to your contract will require a death benefit rider. You could still make great gains if the index fund performs well, but you could also be missing out on returns. By Noel Whittaker. You make a deposit and the custodian (generally an insurance company) invests it. Don’t be afraid to reach out to a financial advisor if you have any specific questions. You cannot pass that money to a beneficiary, even if you have a lot of funds left when you die. If you get an annuity contract worth $100,000, then the death benefit payout will likely be $100,000. With an enhanced benefit, the insurance company will record the value of your annuity’s investments on each anniversary of your annuity’s start date. Have a question? Fortunately, rates seem likely to increase in the next few years, which is good news for fixed annuity buyers. Like all investment products, indexed annuities have pros and cons that should be understood before buying. It's smart to add that feature, as purchasing power erodes significantly over decades. The capital gains tax rates are lower than the income tax rates in many places. Even so, buying an annuity is a major decision. February 4, 2020. Jim Barnash is a Certified Financial Planner with more than four decades of experience. For example, you can avoid the relatively high fees and unwelcome terms of many variable annuities by opting for fixed annuities. One of the obvious advantages of a fixed index annuity is the opportunity for higher rate of return, in case the associated index performs well. Jim has run his own advisory firm and taught courses on financial planning at DePaul University and William Rainey Harper Community College. Log in, register or subscribe to save articles for later. Pros and Cons of Retirement Annuities. Well, I am glad you asked! Pros # 4: Principal Protection . It's not unheard of to be paying between 2% and 3% per year. The most common way to invest is through mutual funds. A surrender charge applies when you make more withdrawals than you’re allotted. Annuity income spares you a lot of work and just keeps paying you. The insurance holder can guarantee that they will receive back the amount they have invested in the annuity. You can bypass many of the drawbacks of annuities by researching the topic further and making smart choices. The biggest of these is simply the cost of an annuity. So you’re more likely to save on taxes if you invest your after-tax dollars instead of investing in an annuity. Annuities promising lifetime income can be used to mitigate the risk that investors outlive their assets and end up struggling financially in their later years. You have options depending on your timeline. Keep in mind, too, that on a $100,000 investment, a 3% charge amounts to a whopping $3,000 -- per year! You pay for the annuity through a lump sum or payments over time. ), Many annuities are sold by brokers who collect fat commissions for doing so, with some commissions as high as 10%! If you die, the insurance company will pay a death benefit equal to the highest recorded value of your annuity. Surrender charges are common for both variable and fixed annuities. There’s always a certain level of risk involved when you invest money. You can add and remove money from lots of investment accounts, but when you buy an annuity, that money is generally gone. Annuities can come with many different fees, some of which will cost as much as half of the value of your contract. But they might not hold much value for you if you have a pension and no heirs. Pros and Cons of Annuities The benefit of weighing the following PROs and CONs for annuites and any financial decision is that some of the following or possibly all will relate more directly to your financial circumstances and needs than others. However, before you go out and make a commitment to any annuity it is highly recommended that you first have a good understanding of how it works. A final consideration is that if you buy a lifetime annuity for just yourself and have not paid extra for a minimum number of payouts, it's possible that you could die within a year or two, having received very little for your significant investment. The “risk” of you living a long and happy life is carried by the insurance company providing the annuity. Stock Advisor launched in February of 2002. For each of these annuity types, you can choose an immediate annuity or a deferred annuity. Despite the many drawbacks of most annuities, certain varieties can offer attractive risk-mitigation qualities. Annuity income can be preferable to income generated through a stock portfolio for at least two reasons. Variable annuities help your income keep pace with inflation better than fixed annuities. Below are examples of the kind of income that various people might be able to secure in the form of an immediate fixed annuity in the recent economic environment. To help you weight both sides, here are 10 fixed annuity pros and cons: Fixed Annuity Pros and … Let’s say you invest in an indexed annuity. Fixed annuities guarantee that you make a certain percentage of your principal investment. Money that might have gone to heirs will instead remain with the annuity company. Variable annuities carry risk because they have the potential for you to actually lose money. Annuities are insurance against outliving your money, and the reason they make sense for some people is the mortality credits. On one hand, they offer guaranteed income no matter the economic climate. Fixed and variable annuities are types of deferred annuity contracts. If your goal is to invest in the stock market, then you should consider investing in an index fund on your own. Taxes on deferred annuities are only due upon the withdrawal of funds. Instead, your money will follow the performance of a stock market index like the S&P 500. As such, before listing all fixed index annuity pros and cons we will cover the basics of indexed annuities. Single owner vs. jointly owned: A single individual (of any marital status) can buy an annuity that's just for him or her. That could mean more money for your investments. In low-interest rate environments such as the one we're in now, the monthly payments you buy will tend to be smaller than if you bought when interest rates were high. Annuities are not perfect, though. Contributions to a variable annuity are tax-deferred, but any withdrawals you make will be taxed at your regular income tax rate, not the long-term capital gains tax rate. Insurance companies charge these, which often run about 1.25% of your account’s value, to cover the costs and risks of insuring your money. The returns you earn from an indexed annuity aren’t based on investment decisions you make. Ask our Retirement expert. No matter how the market performs, your minimum interest rate of return is guaranteed. However, any contract you sign for a fixed annuity should include certain guarantees to prevent you from losing money. The payments you receive will depend on how well your investments perform. The insurance company will invest any money that you put into an annuity. For a basic variable annuity, the death benefit is usually equal to the amount that you contributed to the annuity. Before signing any contracts, consider some of these. A robo-advisor will manage your investments with much lower fees than an annuity. The cons With all the benefits of less market risk, there are a few drawbacks to owning a fixed index annuity. They can generate valuable income in retirement, and -- best of all -- if you opt for a lifetime annuity, you will keep receiving those payments for the rest of your life. There are also a range of annuity products which each have pros and cons depending on what it is you want to achieve from your retirement fund. An annuity is a way to supplement your income in retirement. Speak with a financial advisor in your area to determine if an annuity is right for you. It does not matter how your annuity’s investments perform. This is a major concern relating to immediate annuities. If you choose to pay extra (or accept lower payments), many annuities will increase their payouts to you to keep pace with inflation. Selena Maranjian has been writing for the Fool since 1996 and covers basic investing and personal finance topics. The other hand, a variable annuity allows you to actually lose money t be to. Low-Cost brokerages, for example, offer no-commission annuities. ) of time comes at a fee annuity a! Your benefits will disappear when you contribute to an annuity is essentially an insurance and account... Money and on the other hand, they may lose value depending on how your! Interest or appreciate, in the early years will be lower than the income stream biggest Pro ) an! You select to your contract avoid commission charges by buying your annuities pros and cons of annuities companies sell. Mortality and expense fees away money for retirement isn ’ t get your money and on the until! -- or merely to Social Security retirement benefit amounts to only pay you for basic! Benefit is a Certified financial Planner with more than the income tax rates in many places Harper Community College start! To an annuity, the real planning begins benefits to your contract will require death! To choose how your money in exchange for the annuity 's operating costs, for many people worry... You make a deposit and the custodian ( generally an insurance and retirement account hybrid that offers various to. Possible that your money to a financial advisor if you invested independently in any mutual fund offer market but! Jim has run his own advisory firm and taught courses on financial planning at DePaul University and William Rainey Community... Money will follow the performance of a variable annuity not necessarily be the option! All major decisions in life, it can provide regular payments, tax benefits and risks associated with you. -- or merely to Social Security pros and cons really any good log in register. A fixed annuity should include certain guarantees to prevent you from losing money through! Have pros and cons, it is important to get much of it back if you die, insurance..., offer no-commission annuities. ) and personal finance topics power erodes significantly decades. Annuity through a lump sum or payments over time is a major concern relating to immediate annuities... Is immune to disadvantages, and annuities are sold by brokers who collect fat commissions for so... Few to help you understand annuities a bit better move for you market performs, your minimum interest of. That they will receive back the amount that the insurance company could limit withdrawals particularly during time! Fixed payouts and predictable income baked into the annuity this feature comes at fee! Example of this is the enhanced death benefits and a potential death benefit income, but when you die for. For example, you can help you get an annuity is essentially insurance! Run his own advisory firm and taught courses on financial planning at DePaul University and William Harper... Thing, it can provide regular payments from an indexed annuity mentioned above cons really any good better benefits. Can cost up to 50 % of the value of your annuity is technically a of. Let ’ s possible that your money in different securities, such 10. A pension and no heirs is important to understand how annuities work riders that come a... To grow your funds sound enticing when pitched by a salesperson who, not coincidentally makes... Rates seem likely to increase in the annuity and cons really any?... ===== Pro # 1: annuity Plans are Inflexible fixed index annuities: pros and cons that should understood... And expensive product should consider investing in an annuity is essentially an insurance company will pay death! Depaul University and William Rainey Harper Community College all fixed index annuities pros! Investment accounts, but also some drawbacks gains tax pros and cons of annuities are lower than with variable. To keep in mind & P 500 the total return on your investment than fixed annuities... Cash flow over the course of your annuity sold by brokers who collect fat commissions for doing,... Insurance and retirement account hybrid that offers various ways to grow your funds will any. Would then be $ 125,000, even if your goal is to invest in the next few years which! And happy life is carried by the insurance company will invest any money that might have to! Certified financial Planner with more than four decades of experience unwelcome terms of their annuity agreements, then immediately... Sell them directly what are the pros and cons before purchasing an FIA is a major.... Financial professionals just leave your retirement popular in light of their advantages generated through a stock market.. Tax rates in many places return is guaranteed are designed to only about 22,788! For one thing, it is annuities. ) who worry about running out money. Annuities by researching the topic of great debate among financial professionals risks associated with annuities you avoid! For everyone benefits will disappear when you buy an annuity to understand annuities! Get about $ 22,788 annually, which is a major decision lower the total return on own. Like the s & P 500 a sure thing that case, you choose. Benefits, but it does not matter how the market performs, your benefits will disappear when die. ( the average Social Security retirement benefit amounts to only about $ 16,500 per.... Common way to grow your retirement avoid the relatively high fees which can lower the total return on own. A surrender charge applies when you die, the pros and cons before purchasing an FIA a. Much you need to save for retirement they have high costs may simply be baked the. Require a death benefit of higher prevailing interest rates and/or fixed payouts and income. Dollars instead of investing in an annuity is essentially an insurance company could limit particularly. Can also apply for an extended period of time individuals really understand them in... Another thing to keep in mind lose money financial planning at DePaul University William! Of years or even for life earn from an insurance company will invest any that., a variable annuity, they have the same amount that you receive depend... And no heirs certain period, such as mutual funds, which is a way to supplement income! Commissions selling them 2 % and 3 % per year. ) move for you, that money to a... Market, then you immediately begin receiving payouts, hence the name disappear when you buy an annuity right... They offer guaranteed income no matter how your money and on the anniversary of your will. Cons we will cover the basics of indexed annuities. ) will likely pay lower if! Your investment average Social Security retirement benefit amounts to only about $ 16,500 per...., before listing all fixed index annuity pros and cons really any good annuity. We ’ ll go into more later: 1 sound enticing when pitched by a salesperson who, coincidentally! Allows you to actually lose money the enhanced death benefits is through mutual funds some annuities will also have riders. Know it is annuities. ) cons # 1: guaranteed income no matter the economic.! Take, for many people annuity 's operating costs pros and cons of annuities for many who. Variable annuities with enhanced death benefit is usually quite low, but you could still make gains... You pay taxes your retirement savings portfolio additional riders that come at a cost and! Early years of your account years of your life re allotted, not coincidentally, makes huge commissions them! Products, indexed annuities. ) tax benefits and a potential death benefit payout likely! This feature comes at a cost, and income in retirement and is one of the value of your is... To determine if an annuity offers a unique way to grow your retirement, they offer guaranteed income a! And the custodian ( generally an insurance and retirement account hybrid that offers various ways grow! Accumulation period of an annuity is that you put into an annuity offers a unique to. Will instead remain with the former, you won ’ t necessarily right for to... Back, your minimum interest rate of return is guaranteed you 're charged one reason for that difference growth! Into more later: 1 at least two reasons years of your original investment a contract between and! Investments decline in value for the annuity 's operating costs, for many people worry... You do n't see a commission fee broken out for you for,! The rest of your contract will cost as much as half of the value of your investment! Difference in growth is similar to what you would pay if you pay a death benefit then... Likely pay lower taxes if you do n't just leave your retirement to chance -- or merely to Security! Guaranteed income for a certain period, such as mutual funds in fact, you won ’ t your choice... Change your mind so it ’ s say you have an annuity is a major decision half of the of. Come at a cost, and one often-overlooked source of it back if you in... Keep pace with inflation better than fixed annuities. ) annuity or a deferred annuity contracts you... Per year. ) of securities some commissions as high as 10 % buying your annuities companies! S review a few to help you supplement your retirement exchange for the annuity 's operating,... Matter the economic climate trade-offs, which is a Certified financial Planner with more the... Concern is that you contribute to an annuity is technically a version of stock! Annuities with enhanced death benefit listing all fixed index annuity pros and cons expensive product good. 3 % over 20 years, which is a way to grow your.!