There are so many options available when it comes to investing that it can be confusing trying to determine which ones are right for you. One common product that you might hear about is an annuity. These are popular investment options, but novice investors may not know what they are, how they work, or if they’re the right choice for their portfolios.
Annuities can be an excellent supplement to your other retirement accounts and can help you diversify your portfolio, helping protect you from market shifts and insulating you from turmoil in the economy.
Annuities are essentially insurance contracts financial institutions issue, with a plan to pay out the funds in the future. Investors purchase annuities either monthly or all at once, and the financial institution pays out later for a specific period or until the end of the investor’s life. The period during which you pay into the annuity is called the “accumulation phase” and grows the annuity on a tax-deferred basis.
What Are Annuities Good for?
People who have received a lump sum of money often purchase annuities, especially via a settlement, severance, or buyout. Using these funds to buy an annuity allows the investor to swap out an immediate payout with a cash flow down the road.
What are the Drawbacks?
Annuities can come with complicated tax implications. So, it’s best to speak with a professional and ensure you understand them before you invest. The funds in an annuity are taxed at the time of withdrawal. The rate of taxation depends on whether you purchased the annuity with pre-tax dollars or not. Additionally, if you withdraw the money before age 59, you’ll incur an additional 10% early-withdrawal penalty. That means the money you place in an annuity is not available to you in the event of an emergency unless you’re willing to pay the penalty.
What Are Annuities Types?
There are several types of annuities available, and each has its own benefits and drawbacks. Depending on your investment capability and your desired withdrawal time, you can choose from an immediate or deferred annuity, or a fixed or variable annuity
How Can I Get an Annuity?
Government agencies, including the Securities and Exchange Commission and the Financial Industry Regulatory Authority, regulate annuities. That means that people or companies selling annuities need to hold a state-issued life insurance license. For variable annuities, the state issues a securities license. If you’re going to purchase an annuity, make sure the broker you’re working with holds these certifications. This will help you avoid unscrupulous actors and ensure your money goes where you want it to go. Life insurance companies typically sell annuities. So, if you already work with one, ask about annuities as an option. You can also ask people you trust for recommendations on a reputable life insurance company and go from there.
How Are Annuities Different from Life Insurance?
Financial institutions often advertise annuities and life insurance together and discuss them with clients simultaneously. However, the two products have very different uses. Investors use annuities as a supplement to retirement funds. In constant, life insurance pays out to the policy holder’s beneficiaries in case of premature death. With life insurance, those beneficiaries receive a lump sum to help cope with expenses.
Saving for retirement is crucial. Annuities are one more option at your disposal that can help you ensure you can maintain the standard of living you want after you retire. As with any financial decision, you should speak to a trusted professional to make the best decisions for you. With these basics, you can enter the conversation more informed and ready to make the right choices.