How to Decide if a Retirement Annuity is Right for You

Saving up towards retirement is not an easy task. It involves a lot of careful planning and decision-making. As such, retirement planning can often become a very complicated and tedious process. There are many investment options available to retirees and it can become quite difficult to choose the right one(s) as per your specific needs.

However, one of the most effective ways of guaranteeing an income stream after retirement is to purchase an annuity. An annuity can help you save for retirement without having to worry about external factors such as market risks or recession.

What is a retirement annuity?

A retirement annuity is an investment that lets you put a certain amount of money into an insurance product with the guarantee of receiving a payout later.

Essentially, an annuity is a contract between you and the chosen insurance company. Upon purchasing a retirement annuity, the insurance company invests money on your behalf and you earn regular returns on it. These returns can either be in the form of a lump sum payment or be spread out over several years. The payment structure and terms can vary depending on the chosen insurance company and the type of annuity you purchase.

Most retirement annuities offer two payment options to investors:

• The money can be put into an annuity over a predetermined period of time during the growth phase.
• A lump sum payment can be made towards the annuity with the option of receiving an immediate payout.

Types of retirement annuities

There are different types of retirement annuities and each type is unique in its own sense. For instance, an immediate annuity pays significant returns but requires you to sacrifice the principal amount. On the other hand, a variable annuity can increase your principal as time passes but the accompanying fees are generally quite high.

It is important for you to know the different types of annuities so that you can make an informed decision and pick one that fits your particular needs optimally.

Retirement annuities can be classified into three main types:

Fixed annuity

As the name suggests,fixed annuities pay guaranteed rates of interest. Fixed annuities are preferred by people who want a modest and fixed stream of income. A fixed annuity is generally considered to be a relatively risk-free investment option as insurance companies assume all the risk on your behalf. There are two further subcategories of fixed annuities:

1. Immediate annuity
   An immediate annuity can be purchased by making a one-time, lump sum payment and returns can be received on a monthly, quarterly, or yearly basis. These returns can be earned for life or for a fixed amount of time. Once purchased, investors start receiving return payments immediately.
2. Deferred annuity
   In contrast to fixed annuities, deferred annuities promise to pay a regular income to investors at a later, predetermined date. Deferred annuities also supplement one’s income through periodic payments or a lump sum amount. Most investors opt for a deferred annuity when they want to supplement their other retirement incomes.
3. Variable annuity:
   Variable annuities allow an investor to choose from a variety of sub-accounts and returns are generally calculated based on the performance of these sub-accounts. However, there are certain riders available that guarantee a fixed income amount irrespective of market performance. A variable annuity combines the best elements of mutual funds, life insurance, and other tax-deferred savings plans. Variable annuities are very popular with people who want a shot at capital appreciation as well as a guaranteed lifetime income.
4. Indexed annuity:
   An indexed annuity offers a variable rate of interest that is added to an investor’s contract value if a respective market index such as the S&P 500 is positive. So, indexed annuities offer a guaranteed minimum return based on the performance of a certain market index. The minimum return varies from one company to the other.

Pros and cons of a retirement annuity

Let’s have a closer look at the pros and cons of retirement annuities:

Pros

1. Regular payouts
   The lifetime payout option provided by retirement annuities means that you receive regular payments for the rest of your life. The overall value and number of payments that you receive generally depends on the type of annuity you purchase and its respective contract terms.
2. Tax benefitsAnother major advantage of investing in a retirement annuity is that the money you contribute towards it is tax-deferred. You do not owe any taxes on the money until the time of withdrawal.
3. Fixed annuities offer guaranteed returnsFixed annuities are a great option because they guarantee you a percentage of your investment as returns. This percentage can vary and is usually quite low. However, the returns you earn are guaranteed to be more than your original principal account.

Cons

1. Hefty fees
   When compared to other investment options like mutual funds, annuities can appear to be costly. Annuities can be quite expensive owing to the administrative, mortality, and expense fees that you are required to pay. It is a good practice to fully understand the fee structure before picking out a retirement annuity.
2. Complexity
   Many people shy away from retirement annuities because of the complexities involved. When it comes to annuities, there are a host of variations available. Some annuities have such complex terms of contract that most investors can never fully understand them.
3. Lack of liquidity options
   Many retirement annuities carry a hefty surrender fee which is incurred if you choose to opt for withdrawal within the first few years of purchasing the annuity. Typically, this surrender period lasts up to 8 years but in some cases, it can last even longer. As such, it can be quite difficult to get out of an annuity.

Is a retirement annuity right for you?

As you can see, there are a lot of advantages and disadvantages of retirement annuities. For some investors, a retirement annuity can be ideal. Others might avoid investing in annuities for their own particular reasons.

Whatever the case may be, there are a couple of points that you need to always keep in mind when choosing a retirement annuity:

• The fee structure of retirement annuities can be quite complex. More often than not, insurance agents will only highlight the advantages while trying to downplay the drawbacks. Therefore, it helps to go through the fee details carefully and ask questions whenever you need to. You must know what you are getting into beforehand instead of regretting your decision later.
• Try to understand the different types of annuities and then pick one that fulfils all your requirements. Each type has its own set of terms and benefits. It is not necessary that the most popular or affordable option will turn out to be the most beneficial for you in the future.

To sum it up

Retirement annuities offer a secure way of ensuring that you do not outlive your assets. They can help you save for retirement without having to worry about market risks. While opting for a retirement annuity, there are only a few details that you need to peruse and consider, such as paying close attention to the fee structure and avoiding complicated variations.

To know more about which retirement annuity is right for you, you can speak to some top Financial Advisors in your area.