Annuities are among the most misunderstood financial products in America. They come with a lot of myths and misconceptions, which can lead to making the wrong decision when it comes time to choose one for your portfolio. To help you get started on understanding annuities, we put together this article that shares 10 facts and myths about annuities that every investor should know before purchasing.
5 Annuity Facts
An annuity is a form of investment that pays you income throughout your lifetime. Annuities are typically used to generate retirement income, but they can also be used as an estate planning tool. Here, we will discuss 5 annuity facts that you should know.
1. Guarantee Lifetime Income
Annuities have no contribution limits; therefore, you save as high or low as you desire. Similar to other types of insurance, one pays premiums to the annuity company to bear this risk. Premiums depend on the type of annuity and can be in the form of a lump sum or a series of payments. In a phase known as the payout phase, you stop paying the annuity, and the annuity starts paying you.
2. Payments Do Not Always Come to an End When the Beneficiary Passes Away
Annuities can be designed to continue payments even after the beneficiary passes away. Annuity benefits are paid to a surviving spouse, other named beneficiary, or, if no one is left behind to receive the payments, to your estate. Annuity payments typically decrease when there is no one left alive to receive them. Annuity owners should discuss this aspect of the annuity purchase decision with a financial consultant.
3. There Are Different Types of Annuities
Annuities come in many forms. There are fixed, variable, immediate, and deferred annuities. Each one is unique and has its benefits and disadvantages depending on your preferences. These four annuity types are dependent on two distinct criteria: when you wish to begin receiving payments and how much future growth you’d want for your annuity.
4. Annuities Are Tax-Deferred
Tax-deferment means that you do not pay taxes on the funds while still in the annuity. You only pay taxes on the funds when you withdraw. Therefore, owners can fully reinvest capital gains, dividends, and interests with no worry about tax payments in the time the funds are in an annuity.
5. If the Insurer Goes Out of Business, State Guaranty Associations Insure Consumers
Although the security of the money in annuity depends on the wellbeing and solvency of the insurer, recourse is given if the insurer’s business fails.
It is also true that the FDIC does not insure annuities but state guaranty associations protect most of them. It is paramount to note that annuity coverage limits vary because these associations function at the state level.
5 Annuity Myths
Annuities can often be misunderstood, which is probably why there are so many myths about annuities floating around. Let’s look at the top 5 annuity myths.
1. Annuities Are Costly
Contrary to this myth, many annuities are low-cost. Some offer additional features that cost more, which you should consider when addressing specific risks. It is important to consider what you require the annuity to do while choosing an annuity. Compare the cost of each additional guarantee, feature, and benefit and only pay for what is necessary.
2. It Would Be Best If You Only Considered Annuities as a Retiree
Although annuities are important for retirement, they help savers too.
Deferred annuities can offer an additional tax-deferred vehicle to help you build wealth if you max out on contributions to your employer-sponsored saving plan or IRA.
With these, one can grow their investment tax-deferred and turn it into an income stream in the future.
3. The Insurance Company Benefits From Your Money When You Pass Away
Most annuities are set to pass the account’s value to your successors. Income annuities also provide options for your heirs if you do not select the largest payout option.
This may decrease income, but it is worth the trade-off if the desire is to leave assets to an heir. Work with a financial consultant and discuss all the options available.
4. Lifetime Income Can Easily Be Created From Retirement Accounts
Other than Social Security and pensions, annuities provide an income stream that you can’t outlive. Due to the uncharacteristic nature of markets, one can’t be sure that you won’t ride out your investment portfolio. However, you get into a contract with an insurance company that pays an agreed amount for your lifetime with an annuity. This gives you peace of mind knowing this specific income stream is a guarantee.
5. Buying Annuities Is Unnecessary Before Retirement
In reality, specific annuities help protect income in the future from market volatility and others against inflation. Annuities became popular during the Great Depression of 1939 as people tried to protect themselves from inflation. A Deferred Income Annuity (DIA) and a fixed deferred annuity with a Guaranteed Lifetime Withdrawal Benefit (GLWB) rider are outstanding in their ability to grant the necessary peace of mind.
Purchasing a DIA provides guaranteed income for a lifetime no matter the market’s condition because they are designed to create future income. They provide the greatest advantage if you do not require access to the money until the day you select an income start date.
Your lifetime withdrawal benefit amount is tied to the age you begin withdrawal and the deferral period. It is, therefore, advisable to start early as the longer time you take to withdraw the benefit amount, the higher it will be.
As you can see, annuities have a lot to offer. Annuity benefits are often misunderstood, and it is important that one does the necessary research before investing in an annuity. Also, there are many myths about annuities floating around, so it’s crucial to understand what they do and don’t provide for you.