If you are trying to save for your retirement, you might want to consider an annuity. Annuities may offer structured payments to you in retirement. The professionals at Elder Care Direction can discuss annuities and other retirement savings vehicles with you so that you can make a better-informed choice.
What is an annuity?
An annuity includes two phases, including accumulation and annuitization. In the accumulation phase, you contribute money in the same way that you would contribute to a different financial product. When the contract annuitizes, your annuity will start to make steady payments based on your overall investment and the product’s nature.
How annuities work
Insurance companies typically sell annuities and guarantee the payments. Some may also be sold by finance firms. An annuity’s structure may vary. You can choose a product that has an annuitization period of a fixed number of years or that attaches to specific events such as death or retirement. You can also choose an annuity that pays you in a lump sum.
If you have a variable annuity, it will not guarantee that you will receive a payment in a set amount. Instead, your payments will depend on how well a series of investments perform. Variable annuities can be more expensive than an employer-sponsored retirement plan or an IRA.
Fixed or income annuities are the second main type of annuity. If you have a fixed annuity, you make investments in specific amounts. The provider will guarantee periodic, fixed payments in return. Many people use fixed annuities to supplement their retirement savings.
There are two forms of annuities with different tax implications. Deferred annuities allow your earnings to compound annually without being taxed. This lets your money grow faster. If you have a deferred variable annuity, it might mean that you can enjoy a higher rate of return. If you have a deferred fixed annuity, you might receive a higher payment when it annuitizes. Deferred annuities are meant to be retirement assets. If you withdraw your assets before the age of 59 1/2, you can incur a 10 percent penalty from the IRS. After you retire, you will not be taxed on the amount that you invested, but you will pay taxes at your ordinary income tax rate on the earnings.
Immediate annuities do not have the tax advantages offered by a deferred annuity. However, they may still be useful. If you are drawing close to retirement, you can invest in an immediate annuity if you will need income soon. If you want to turn a lump sum of money into steady income, you can also do so with an immediate annuity.
Liquidity and risks
Annuities are not liquid other than some immediate annuities. Most annuities start paying on a date that is set years in the future. If you withdraw your money from your annuity before the date, it will trigger a surrender payment, which is an early withdrawal fee. You might also have to pay the previously described IRS tax penalty.
Annuities are also expensive. Many firms charge commissions and fees to buy in, which can consume a fair portion of your initial investment. There is also the risk of insolvency. Annuities are contractual in nature and are not deposits. This means that your investment will not be FDIC-insured. If the company bankrupts, you might lose your money. Before you purchase an annuity, it is important that you make certain that the company will likely last.
Why do people use annuities?
The main reason that people have annuities is that they have already contributed the maximums to their IRAs and 401(k) accounts. An annuity might allow you to build a retirement account beyond your other retirement accounts.
Since an annuity is costly, it is best for you to build your savings in your traditional retirement accounts before thinking about an annuity. Once those options have been exhausted, an annuity may be an option to help you to build predictable income for your retirement. To learn more about annuities and other ways to save for retirement, contact Elder Care Direction today by filling out our contact form.