Thinking about adding an annuity plan to your retirement portfolio? An annuity could be a wise supplement to your savings, tax, and estate planning.
Yes, annuities have drawbacks. They don’t provide the returns and double-digit dividends of other riskier investments. The cash you park in an annuity is pretty much frozen in place and only accessible through early withdrawal penalties of around ten percent. The money is not protected by the FDIC.
Nevertheless, an annuity could be a bridge between traditional life insurance and diverting those term premiums and recycling the cash value of permanent insurance to better use. Likewise, if your cash is languishing in a savings account drawing embarrassingly low interest rates, rolling over some of that money to a variable annuity—one you can contribute to anytime—could be a good choice.
Fair warning, though, annuities are insurance policies. As such, they are governed by state laws. A variable annuity provides higher returns than a fixed annuity, where you contribute a lump sum up front and at some time in the future start drawing periodic payments. So, you need to check the fine print of the variable annuity policy to find out if your balance is protected. If you live in Florida, your variable annuity policy isn’t covered unless the insurer says so.
Drawbacks notwithstanding, there are a host of annuity advantages. Here are some:
1. Annuities are tax deferred. Neither the principal investment nor the annual accrued earnings are subject to income taxes. When your payouts begin, you pay the standard income tax on what you withdrew.
2. The payouts typically come at a time when you are in a lower tax bracket and the tax is based on the interest accrued—not the principal.
3. When the annuity matures, you begin converting its accumulated assets into a monthly payout, without liquidating your principal.
4. A fixed annuity guarantees the interest your cash contribution will earn. At the end of a stipulated period, the interest may drop, but the lower interest will be three to four times the rate of a savings plan.
5. Unlike other retirement contributions—IRAs, 401(k)s, etc.—there is no upfront nor yearly limit (in the case of a variable annuity) to your contributions. So, a variable annuity is an instant tax shelter to stash extra money for your retirement.
6. Annuities offer a safe investment strategy. Yes, you could lose your investment if the insurer defaults and files for bankruptcy. So, shop around and find a reputable and stable annuity provider.
7. An annuity comes with built-in, probate-proof survival benefits for your heirs.
8. Add a long-term care rider to the annuity policy, and you can finance long-term care expenses. If you don’t use the money for long-term care, you don’t lose the cash you invested.
So, if you’re interested in balancing risk, you could consider buying both fixed and variable annuities. Variable annuities will earn more when the stock market is doing well. A fixed annuity, on the other hand, will grow regardless of how the stock market performs.