Learn All About Annuities – Personal Finance Advice – as part of the expert series by GeoBeats.
A lot of people have heard about annuities and they are not really sure about them. Plus, there is a lot of controversy associated with annuities because in some respects they can be very very complex. But to simplify it, first of all, most annuities are sold by life insurance companies, so keep that in mind. But the two types of annuities are something called an immediate annuity and there is something called a deferred annuity.
And the immediate annuity is you give the company a set amount of money. Let’s say you give them 0,000. They then come back and tell you how much they will pay you on a monthly basis for the rest of your life. Now, that is one option. So, a lot of times, people that are getting ready to retire and they have some investments and they are not comfortable managing them, they may opt to get an immediate annuity, because it is something where they know they are going to have a steady stream of income. And you can even purchase some with an inflation rider, which would help in the future as expenses change.
There are other options with the immediate annuity. You can get it so that it is a period certain. Let’s say you are retiring early and you have 10 years before you want to retire, or get Social Security, or get a pension, you could fund an immediate annuity for 10 years. Or, if you feel like, “My health is not that good. What if I die within 10 years? And then I am going to lose all that money that I gave for the annuity”, that could be a period certain with a lifetime benefit. So, if you die before 10 years, your beneficiary will still get the 10 years of benefits, even though you have passed on. You can also get a lifetime benefit with a spouse or a beneficiary where, if you die, the spouse or beneficiary still gets a lifetime benefit. The challenge with anything, with these other riders that they are called, or add-ons to the annuity, is it is going to lower the amount of the payout.
As far as the deferred annuity, what you do is, you give the life insurance company a sum of money or you can make payments over time. You are not immediately going to get a payout. You are just building that annuity, so then it becomes somewhat of an investment. So, with those deferred annuities, there are 2 types: there is a fixed annuity and there is a variable annuity. The variable annuity is the one that is a lot more complex. The fixed annuity usually it is giving you a guaranteed rate of return for a set amount of time. So, as interest rates change, the fixed rate that they are offering is probably going to change. But that is a lot simpler than the variable annuity, because with the variable annuity, you are basically investing in mutual funds.
So, you get to select the different mutual funds. There are a lot of different types of income riders that offer a guarantee with several different options. Because of the complexity, there is also a lot of cost. So, there are commissions, and the fees can run from 1% to 12%, there is a deferred sales charge. So, it is something that someone needs to look at very closely. They may even want to get help from a professional that is not selling that kind of product. But with both of those, both the variable and the fixed, at some point, you can convert those into an immediate annuity.
The other thing to consider is annuities are tax deferred. So they have a tax benefit. So, if someone is maxing out their retirement accounts, then they may want to think about getting an annuity. But, very often, they are being sold within retirement accounts. Retirement accounts offer you tax deferment, so why do you need to pay the expense for an annuity when you can get that within your retirement account. The other thing that annuities have offered is that they offer death benefit. But the death benefit they offer is very different than life insurance because with life insurance, you mostly do not have to pay taxes on it. Unfortunately, with an annuity, if you, let’s say, put ,000 into annuity, and you get a ,000 death benefit, you will have to pay income taxes on that ,000. Some people are not aware of that and then, suddenly, there is this nice tax bill they were not aware of. So, the key thing is to do a lot of investigation. There is also an option, there is some Nolo Mutual Funds that offer a very low cost option for annuities.
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