What REALLY is an Annuity? (Which One is Good or Bad?)
When it comes to retirement planning, the term "annuity" often pops up. But what exactly is an annuity, and how does it fit into your financial strategy? With numerous products available and conflicting opinions in the market, understanding annuities is crucial for making informed financial decisions. This article aims to demystify annuities, outlining their different types, their benefits and drawbacks, and how to determine which options may be good or bad for your specific needs.
What is an Annuity?
At its core, an annuity is a financial product designed primarily for retirement purposes. It is a contract between an individual and an insurance company that allows for the accumulation of funds over time, followed by a series of periodic payments in return. Annuities are generally categorized into three types: immediate, deferred, and variable.
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Immediate Annuities: These begin payments immediately after a lump sum is paid to the insurance company. They are often chosen by retirees who want to convert their savings into a steady income stream right away.
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Deferred Annuities: These accumulate funds over a set period before payments begin, often allowing the account to grow tax-deferred until retirement. They are typically divided into fixed and variable subcategories:
- Fixed Annuities offer a guaranteed interest rate.
- Variable Annuities allow for investment in various securities, meaning returns can fluctuate based on market performance.
- Indexed Annuities: These are a hybrid between fixed and variable annuities. The returns are linked to a specific stock market index, offering a balance of growth potential and downside protection.
Benefits of Annuities
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Guaranteed Income: One of the most appealing features of annuities is the option for guaranteed income for a specific period or for life, providing peace of mind during retirement.
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Tax-Deferred Growth: Annuities allow your initial investment to grow without being taxed until withdrawal, making them an attractive option for long-term growth.
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Flexibility: Annuities can be tailored with various riders (additional features for a fee) that can enhance your contract, such as death benefits or additional income options.
- Estate Planning Benefits: Annuities can serve as a means of transferring wealth to beneficiaries while avoiding probate.
Drawbacks of Annuities
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High Fees: Many annuities come with high fees, including surrender charges for early withdrawal, which can significantly erode your returns.
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Complexity: The terms, conditions, and options available can be complicated, making it challenging for consumers to fully understand their commitments.
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Inflation Risk: Fixed annuities, while stable, may not keep pace with inflation, potentially reducing purchasing power over time.
- Liquidity Issues: Annuities are not easily liquidated, meaning access to funds can be restricted, especially in the early years of the contract.
Which Annuity is Good or Bad for You?
Determining whether an annuity is a good or bad choice depends on your individual situation. Here are some critical factors to consider:
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Financial Goals: What are your retirement goals? If you require a steady income stream, an immediate annuity might be a suitable option. If your priority is growth, a deferred or variable annuity could align more closely with your objectives.
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Risk Tolerance: Consider your comfort level with investment risk. Fixed annuities provide stability, while variable annuities come with performance-related risks.
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Time Horizon: For those nearing retirement, immediate annuities offer instant benefits. In contrast, younger investors might benefit from the growth potential of deferred annuities.
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Cost Considerations: Look at all fees associated with the annuity, including management fees, surrender charges, and costs for optional riders. Calculating the total cost over the investment period will help determine if the annuity offers good value.
- Consult a Financial Advisor: Given the complexity of annuities, it’s wise to seek guidance from a financial professional who can assess your personal situation and help you navigate the various products on the market.
Conclusion
Annuities can play a significant role in a comprehensive retirement plan, providing stability and guaranteed income in a volatile market. However, they are not universally suitable for everyone. By understanding what annuities are, considering their benefits and drawbacks, and aligning them with your financial goals, you can better determine which products may be good or bad for your specific needs. Remember, investing in your future should involve careful research, informed decision-making, and sometimes, professional advice.
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Thanks very much for such a very thorough explanation on this annuity. Since your inv of 100.000 is not coming back to you, why not invest that money yourself getting 4.75 % and still get to keep your principal. Thank you
Thankyou for bringing this to my attention, i was thinking of an Annuity but what you have said has made me thing against this idea and will probably go for a Flexi access drawdown from Vanguard.
One of the clearest descriptions of annuities on youtube. Great job! I'm two years retired, so I'm in the arena, so to speak. I bought a 2% COLA lifetime annuity from New York Life, through my brokerage, Fidelity. Like you said, there are no annual fees or commissions on lifetime annuities. Now- my Social Security and my annuity are in my Protection Bucket which pays for my essential and discretionary spending. I have also watched my growth stock portfolio grow even more because I am not withdrawing that money to live on. Also, my sequence to return risk has dropped dramatically. My point is, there are valid reasons to have the right annuity, if you plan it out with the right institution; so stay away from those fly-by-night small advisors, and stick with the big guys who are rated A++ and AAA.
I bought an annuity for 7 years with 5.5% interest rate. I’m happy with my investment since I’m still working and thinking of not touching that money that eventually i would leave it to my daughter.
Pretty low rates of return and onerous rules. I have three ETF's that pay monthly dividends. Totally liquid, I can sell at any time with no penalties. The expense ratios are all less than 0.35% annually and the annual yield rate is between 12% to 15%. There is no "return of capital" and I can still get capital gains growth. I've got about $200k into them and get about $2,300 a month ($28K a year). So far, the value has increased to about $260k over the last 4 years of my buying them. The account is INCREASING in value, not being drained of principle and I'm getting fat monthly payments. They are all held within my ROTH, no taxes. After my wife, our son is the beneficiary for which he will owe NO taxes. Am I missing something here?
I just signed up for a 3 year annuity with Fidelity and from what I can see it behaves like a CD account . It's "USAA Protected Defered Annuity" @ 5% compounded . In the end I can walk away with no fees or sign up again at the urrent rate . I watch my stocks go up and down but this is a good steady income to compliment that .
There one annuity you didn't mention it's call " accumulation annuity " can you explain that one ?
Excellent explanation and video. Thank you for your expertise.
Thank you. Very informative.
Bookmarked. Great explanation
What is the difference between that and a high yield savings account?
I spent 37 years, 1971-2008, in financial services. I am a CFP Emeritus. I hold a multitude of professional designations, including CFP, CLU, ChFC, RICP and many, many others. From 2009-2024, I was a Professor of Insurance, Financial Planning, and Retirement Income Planning .
I tell you that to tell you this…
The facts presented in this video on annuities are 100% true. (They did misstate that Homeowners Policies have a Rider, for Umbrella Coverage. The Umbrella is not a rider. It is a stand alone policy, that requires that you have underlying policies, in order to be eligible for the Umbrella Policy.)
The most important fact about annuities is that there is NO other Financial Tool that will give you the benefits provided by ONLY by annuities. Only annuities provide a lifetime payment to you or to you and a second person. In addition, know this…whenever an advisor talks disparagingly about a financial tool, annuities, or any other, they are displaying a bias, and they are not being 100% honest with you about the product or service. There is no such thing as a "bad financial tool." There are appropriate and inappropriate uses for different financial tools, and only the client gets to decide which each one is, in their specific circumstances.
When I planned retirement, in June 2023, I bought 4 FIAs with Income Riders. In September (my wife's birth month) 2024, we turned on two of our annuities, and began receiving income. In February 2025, we will turn on the other two annuities. These annuities, added to our social security benefits, provides us with $127,000 a year income…and that is without even considering our investment portfolio, invested in equities alone, or the 2 years of cash we have in our emergency fund.
Annuities deserve your attention. They may or may not be appropriate for everyone, but everyone deserves the opportunity to decide that for themselves.
Happy Retirement!
Thank you.
As a single 31 year old male-unmarried-child free-college debt free-mortgage free- I see insanely high value in buying a deffered annuity that can essentially give me a financially free lifestyle when I am in my late 40s. Most people who disagree with me couldn’t live off of $3500 a month, or consider semiretirement that early as an option. Any thoughts?
Love your videos!!!
Thank you
These are the best explained videos I ever found
i have a question so if your settlement is taxable and they can take 33% of your claim would you take that or set up an annuity
I have 2 fixed index Annuities that have done me quite well. Both are 5 year Annuities. Since this is 2 years old, maybe you have changed your mind.
OMG! I have been watching financial videos for 20 years on YouTube. FINALLY somebody explained all the different annuities at one time in a way so simple. You will get my business and THANK YOU!
(Now could you clear up Charitable remainder trusts for me, just kidding)
So what are the best Pension Hybrid?
What type of Annuities do you to are invested in
Do any of these make sense for a person over 80 to purchase?
Very informative, thanks
I'm sure you offered good info but I want it straight. There are just too many ads and fluff to keep me interested in watching.
What if someone has most a fixed annuity and a small portion in variable ?
I don't see any difference between fixed-indexed and hybrid pension fixed index .
The concept of annuities is giving control of your money to someone else. It MAY give you lifetime income, but at CD rates are you really able to beat inflation, and also taxable income tables? . Annuities are a taxable income event and may effect SSI amounts do to the annuitized income value
( my understanding)
The never lose
$$ may be a nice feature, but you also given up the growth potential of 20+ percent versus the cap of 12% annual return (point to point or what ever you choose index) if lucky. If fixed amount it's really not going to do you much on the lifetime income, because who could live on 600. a month ( just tossing a figure out there )
Question is how does this fit in anybody's retirement plan? Why are they pushed? Why isn't it a comfortable decision to make if ANNUITIES are so good?
Just asking… My company pushes them also, and all i know or can assume its the is a kick back and literary every financial advice says that 90 % of people dont fit into the need of annunity.
These people are fiduciaries… pledged to benefit the client with the highest possible gains in regards to their money.
Brokers have no obligation to maximize your earnings and financial safety.
I've watched SO many videos on this subject. This is the first one that simplified. Thank you!
Thank you very much for the information om annuities
I have a 403B. Can I consult with you before I retire next year? Do you have an office in NY? Thank you.
Stay away from them,much better uses of money than that,only deal with insurers for term life,thats it !