December 19, 2018 • Retirement 101 / Articles and Insights

Five Facts You Didn’t Know About Annuities

When it comes to your retirement plan, there’s no room for false information. You need the facts to help you find the right solutions for your retirement needs. One of those solutions might be an annuity: a commonly-misunderstood retirement product. Understanding the facts about annuities can help you determine whether they could fit into your overall financial plan and retirement strategy.

Fact 1: Fixed Annuities Provide Guaranteed Income for Life

One benefit of fixed annuities is their predictable and dependable income. You pay money to an insurance company, and, in return, the company guarantees that you will receive regularly-scheduled payments for the amount of time you choose. It could be 20 years or the rest of your life.

You can choose to receive your payments at intervals that suit you—monthly, quarterly, or annually. The amount you receive with each payment is guaranteed and is based on factors like the amount you paid and how long you want the guaranteed payments to last. This predictability can make it easier to plan ahead for things like home maintenance, travel, visiting loved ones, or pursuing your hobbies.

Fact 2: Fixed Annuities Put 100 Percent of Your Money to Work Immediately

Fixed annuities are commonly confused with other financial products that first take out a fee from the amount you have to save—this is typically called a front-end fee or sales load. But that’s not true for fixed annuities.

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With fixed annuities, 100 percent of your premium is put directly into your annuity policy. If you have $25,000 to save, $25,000 is placed in your annuity account, so 100 percent of your premium payment is put to work immediately for your retirement. The only time you would pay additional stated fees on your annuity would be if you choose to end your annuity contract earlier than you agreed to, or if you want to purchase an additional benefit, such as a long-term care rider or an adjustment to your income payments for inflation. All other costs of the annuity are built into the product’s pricing structure, so there are no extra fees to pay.

Fact 3: Fixed Annuities Protect You from Market Losses

When you’re planning your retirement strategy, it can be difficult to predict what the stock market will look like five years from now—let alone 20. But with a fixed annuity, you’re guaranteed the payment amount for the period of time you’ve chosen, regardless of changes in the stock market. This means that your annuity’s value is protected. The insurance company bears the market risk and guarantees that your payments (and the amount saved in your annuity) will not go down if the stock market does.

With fixed annuities, 100 percent of your premium is put directly into your annuity policy.

Fact 4: Annuities Pay You Today, or Tomorrow

Depending on how soon you plan to retire or may need the money, you may want to consider either an immediate or deferred annuity.

Immediate annuities are designed for people who are ready to retire or need the money today. As the name suggests, this type of annuity begins to pay out right away, depending on how often you choose to receive payments: monthly, quarterly, or annually. For example, if you choose an immediate annuity that pays you monthly, you’d typically receive your first payout 30 days after your annuity is in place.

Payments from a deferred annuity begin at a date in the future. There are benefits for delaying your payments, including the potential for your annuity to accumulate interest. But there are also limitations, such as fees for withdrawing your money too early

Fact 5: Annuities Have Tax Advantages

While annuities aren’t tax-free, they do offer tax advantages. Money placed in an annuity grows tax-deferred. As you earn interest, you won’t pay taxes until you start receiving payments. Most likely that will be after you’ve retired, when your tax rate may be lower.

Because annuities are designed to be long-term products for retirement income, any withdrawals before age 59 ½ will also be subject to an additional 10 percent federal penalty.

When you begin receiving payments from your annuity, your payments typically will be taxed at ordinary income rates. Depending on the type of annuity you purchased, either all of your annuity payments will be taxed as income, or just the payments on the interest earned.

If your annuity was purchased with before-tax money, all your payments will be subject to income taxes. If your annuity was paid with after-tax money, your payments will be paid on a last-in/first-out basis.

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Essentially, this means that, for tax purposes, you are receiving your interest earnings first, and the money you paid in second. After all payments have been made on your interest earnings and the value of your annuity equals what you paid in, your remaining payments will not be taxed.

Whether you purchase your annuity with before-tax or after-tax dollars, the combined power of compounding interest and postponing taxes can make a measurable difference in your savings potential.

Learning about annuities doesn’t have to be a Herculean task. Once you understand the basic facts and separate them from the myths, you’ll be better prepared to consider the benefits annuities could offer for your retirement and financial plan.

Annuities are long term financial products designed for retirement income and may not be suitable for everyone. They involve fees, expenses and limitations, including surrender charges for early withdrawals. Some include optional riders and benefits that may come at additional cost. Annuity product and feature availability may vary by state.

Annuity guarantees are backed by the financial strength and claims-paying ability of the issuing company. Withdrawals are subject to ordinary income tax, and if take prior to age 59 ½ may be subject to an additional 10 percent federal penalty.

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