Annuities are a type of retirement investment product contracted between an individual or married couple and a life insurance company to ensure a fixed, steady flow of income for a specified amount of time or the duration of a lifetime during retirement. Annuity.org explains, “an annuity can be purchased with a lump sum or a series of payments and begin paying out almost immediately or at some point in the future.” Annuities can be thought of as income insurance. As Julia Kagan of Investopedia asserts, “Annuity holders cannot outlive their income stream, which hedges longevity risk. So long as the purchaser understands that they are trading a liquid lump sum for a guaranteed series of cash flows, the product is appropriate.” Annuities are benefits that provide for an individual or couple during their lifetime, usually in terms of a steady flow of income, while other insurance contracts typically offer benefits after death to beneficiaries. By purchasing an annuity, investment risk is transferred to the insurance company. Kim Borwick of Annuity.org explains, “Annuity contracts transfer all the risk of a down market to the insurance company. This means you, the annuity owner, are protected from market risk and longevity risk, that is, the risk of outliving your money.”
Annuities are purchased contracts, where the purchaser takes a portion of their retirement savings or some type of settlement they may have received; and make a one-time payment or multiple payments of the set desired amount outlined in the contract. This phase of an annuity is the accumulation stage. Kagan explains, “The period of time when an annuity is being funded and before payouts begin is referred to as the accumulation phase. Once payments commence, the contract is in the annuitization phase. Defined benefit pensions and Social Security are two examples of lifetime guaranteed annuities that pay retirees a steady cash flow until they pass” (investopedia.com). Different types of annuities can address near-term needs or longer-term investment needs. And because annuities can utilize market indices to grow the funds inside the contract, there are state and federal regulations governing annuity contracts. State insurance commissions regulate annuities, and in cases of variable annuities, they are also governed by the Securities and Exchange Commission and the Financial Industry Regulatory Authority (annuity.org).
The structure of a purchased annuity can vary depending on the customized riders. Kagan asserts, “Annuities can be structured according to a wide array of details and factors, such as the duration of time that payments from the annuity can be guaranteed to continue. Annuities can be structured so that, upon annuitization, payments will continue so long as either the annuitant or their spouse (if survivorship benefit is elected) is alive. Alternatively, annuities can be structured to pay out funds for a fixed amount of time, such as 20 years, regardless of how long the annuitant lives” (investopedia.com). The annuitant can choose to receive payments immediately or at a specified time in the future depending on the type of annuity purchased; immediate payments would commence provided all premiums have been paid to the fund.
An immediate annuity is an income now option. It is funded with a single lump sum and guaranteed monthly payouts and is beneficial for supplementing retirement savings (annuity.org). For income, later options, consider a deferred annuity. Deferred annuities offer tax-deferred premium growth with guaranteed lifetime income starting on the specified date of choice and provide more income later because money accumulates longer (annuity.org). An annuitant wanting guaranteed income might consider fixed annuities. Fixed annuities earn a guaranteed interest rate for a specified amount of time; the rate could be guaranteed, or it could fluctuate year to year on the anniversary of the contract (annuity.org). Those who may be more interested in higher growth potential might consider fixed index annuities that earn interest based on a market index; this is not directly participating in the stock market and still preserves the premium or the money that funded the annuity (annuity.org). There is a guaranteed minimum rate of return. The last type of annuity is a variable annuity which allows the annuitant to choose mutual fund options but does not offer a guarantee on return but offers more growth potential. This type of annuity would be more suitable for someone who can tolerate flexible retirement income (annuity.org).
The benefits of annuities are to provide long-term income. They offer tax-free growth, no limits on contributions, a steady stream of income, and the ability to transfer the annuity to loved ones to fulfill the contract at the time of death. Annuities offer a low-risk investment into a retirement portfolio, but there are disadvantages to annuities. Liquidity of finances is sacrificed to guaranteed financial security. Annuity.org warns, “if your financial status or short-term goals limit the amount of cash you have on hand, an annuity is probably not the right solution for you. It wouldn’t make financial sense to purchase a valuable, viable product if it’s not valuable and viable for you” (annuity.org). Annuities are not an aggressive investment, but rather a way to lock down comfortability during retirement or maybe in younger generations an opportunity to prevent mismanaged finances for the future. It is another investment tool to consider for a retirement portfolio. Cory Anne Hicks and Phillip Moeller of U.S. news conclude, if you’re healthy and you want the security of a stream of income you can’t outlive, or you want to provide for your spouse or heirs, you may benefit from an annuity. Just don’t put all of your eggs in one basket. You want to have enough non-annuity money accessible to cover unanticipated expenses and some of your living expenses. For most people, this means putting about 25% of their retirement assets into an annuity” (money.usnews.com).