Annuities offer some considerable benefits over other kinds of retirement
products, especially for those not able or willing to risk losing a portion of
their retirement savings.
For example, annuities can offer:
Lifetime Income – With an immediate lifetime annuity contract, you are
guaranteed periodic payments for as long as you live. The "risk" of you living a
long and happy life is borne by the insurance company providing the annuity.
Social Security and pensions offer a similar form of retirement income
protection – but in limited dollar amounts. The only limit to the size of your
periodic annuity payment is the amount of money you have to purchase an annuity
now. Even better for many retirees, the older you are, the larger your monthly
payments will be for the same price.
Inflation Protection – You can customize annuities to ensure that your monthly
paycheck will keep pace with the cost of living. This is critically important
because inflation can have a devastating effect on your assets. The downside of
an add-on like inflation protection is that it will cost more – in an initial
cost or in lower starting payments to begin with.
Principal Protection – One of the best features of fixed and equity indexed
annuities is that the value of the annuity can be guaranteed to be at or above
the amount invested. You can guarantee that you (or your heirs) will receive
back at least as much money as you invested in the annuity.
Tax Efficiency – The purchase of an annuity with qualified retirement savings
(401k or IRA funds) can save you money on taxes over taking a lump sum payment.
You can roll-over qualified funds into a qualified annuity without any tax
penalties. You only pay taxes on the income the annuity provides.
In summary, an annuity is a great way to protect your quality of life in
retirement. Your retirement assets can be efficiently used to purchase
guaranteed income to last as long as you need. Best of all, this income can be
protected from inflation and other financial woes.
So, What are the Downsides of Annuities?
Despite the many advantages of annuities, they do have some downsides.
Not All Annuities Are Created Equal – The financial planning community views
some annuities – particularly fixed annuities -- as being the ideal solution to
a retiree's need for guaranteed income. Fixed annuities have a very good
reputation. However, other annuity products are viewed as "snake oil" – an
unnecessary and expensive product. It is very important that you understand the
various features and terms that are applied to annuities.
Lower Returns on Your Investment - In return for the retirement income
certainty provided by fixed annuities or equity indexed annuities you forgo the
opportunity to make bigger returns by investing your money in assets that
fluctuate in value, like stocks. A fixed annuity is considered to be a safe and
conservative investment but this means that you will not see the possible gains
(and losses) of a riskier investment – like the stock market.
Inflexible - Annuities are also typically less flexible than other retirement
options – once you purchase an annuity contract your capital is tied up in the
annuity, so you don't have access to that lump of money.
Some retirement financial planners recommend that people reserve at least 40
percent of their retirement assets for unforeseen circumstances. Because most
annuities are designed to provide steady income over time, they are not ideally
suited to cover large unplanned expenses.
(However, although undesirable, if circumstances require it, there are third
party companies that will exchange a lump sum payment for your fixed income
payments. In this situation you will likely end up receiving less than the
amount you paid for the annuity.)