An annuity is a contract with two stages, the accumulation stage, and the payout stage.
- Accumulation stage:
During the accumulation stage of investing in annuities, you are paying for the annuity, and it also sometimes grows through investment returns. You can pay for the annuity either in one lump payment, or in several payments. Once it is paid for, you can opt to begin receiving money right away, or to let your annuity continue to accumulate principal for some time longer.
- Payout stage:
During the payout stage, you begin to reap the rewards of your investment, as you are paid a certain amount every month. The amount you receive depends on several factors; the amount you paid for the annuity, how well your investments did, and the length of time your annuity covers.
Benefits of annuities:
- Investing in an annuity will give you a tax break, although perhaps not to the extent you suppose. You won’t have to pay taxes on whatever funds you put into the annuity, and you can transfer investments without paying taxes on them, but when you begin to get them back during the payout stage, you will have to pay taxes on them…the same amount you would have to pay if they were part of a regular income.
- Annuities usually offer a death benefit. Should you pass away without receiving the full annuity amount, your beneficiaries are guaranteed to get at least the principal amount invested (minus any withdrawals). The payout may be accelerated in the event of your death.
- Annuities usually allow you to choose your investment options and ratios. The money you receive (in addition to the principal amount you paid originally) is dependent upon how well your investments do. Investments may include stocks, bonds, money market, or some combination of the three.
- Annuities are custom-made for each individual—you get to decide the monthly payment amount, the length of the payments, etc.
Drawbacks of annuities:
- You may encounter annual fees for the annuity.
- Annuities sometimes include other fees besides the death benefit. You will wind up paying for whatever benefits you get, so make sure all the benefits are ones that you need, and that it is not cheaper to get elsewhere.
- It is often more advantageous to invest in IRAs and 401Ks than annuities. If you can, make the maximum amount of allowable contributions to these retirement plans before investing in annuities.
Investing in annuities is a great way for people who have maxed out their 401Ks to supplement their retirement incomes, or ensure that they or their loved ones will have financial stability in the future. But investing in annuities is not something that should be rushed into blindly. All annuities are not equal. You should research and comparison shop for annuities the same way you would do for a mortgage. Request a prospectus from each company you are considering purchasing an annuity with, and read it carefully.
By Riannon Cutler