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There’s all sorts of things to do when it comes to retiring, and it’s important to understand what annuities are. Here’s a crash course on understanding their benefits.
What Are They?
It’s important to understand what annuities are and the types of annuities available. Annuities are a financial product sold by institutions designed to grow funds from an individual, then, upon annuitization, pay out a stream of payments to that person at a later point in time. This is how retirees create a steady cash flow during their retirement years. There are several types of annuities.
Immediate annuities are when the investor begins to receive payments immediately after investing their money. It’s primarily for investors that need immediate income from their annuity. When you buy an immediate annuity, you can choose to have the payments pay out for a certain period of time, for the rest of your life, or a combination of the two.
With deferred annuities, you receive payments starting at a future date, which is usually at retirement. Most deferred annuities allow for systematic withdrawal payments that begin 30 days after the purchase of your annuity. You can invest either a lump sum all at once, or make periodic payments, either fixed or variable.
Fixed annuities are investments that are invested in government securities and high-grade corporate bonds. They upside to these is that they offer a guaranteed rate of return, usually over a period of one to fifteen years. There are two types of fixed annuities: the Guaranteed Return Annuities, which offers a guarantee that you can never receive less than 100 percent of your investment, or a Market Value Adjustment, which works similar to a GRA, but there’s no guarantee of your principal if the rates rise and you have to surrender your contract.
Variable annuities are a contract between you and the issue where you agree to give you issuer principal, and in return, the issuer guarantees variable payments over time. These offer exclusively a guaranteed rate over a period of one to ten years. There are several features of variable annuities:
You can invest unlimited tax-deferred funds. These can grow completely tax deferred until they’re withdrawn.
There’s a wide variety of investment options to permit stock market gains. You can invest in a selection of portfolios, called sub-accounts. These are tied to market performance and usually have a corresponding managed investment that they’re modeled after. You can invest in fixed accounts, domestic, international, money market, specialty, sector funds, and small to large cap funds. Many variable annuities allow you to transfer among sub-accounts completely free of charge.
Variable annuities come with optional living and death benefits. One special type of variable annuity benefit is the Guaranteed Minimum Income Benefit. The most competitive of Guaranteed Minimum Income Benefits guarantee at least a 5 percent return over seven years, or the highest value on each anniversary during the surrender period, whichever is greater. The living benefit annuity has a surrender charge for early withdrawal, no up-front bonus, and a slightly higher annual fee. Lifetime Annual Benefit annuities are also popular. If you purchase a Lifetime Income Benefit annuity with your variable annuity, the insurance company guarantees a regular monthly, quarterly, or annual payment for your lifetime,
Another important feature is the death benefit provision. The issuer guarantees that upon your death, your total premiums invested are paid to your beneficiaries. Some annuities step-up on the anniversary of the date the annuity was purchased, to the highest value at any preceding anniversary; or a guaranteed minimum of five to seven percent interested compounded annually, whichever is greater. Some variable annuities offer a combination of the two. The death benefit option that’s offered by insurance companies comes at an additional expense, which can range from a fifth of a percent to half a percent, on top of the annual expenses. The death benefit associated with the annuity does not transfer to the beneficiary’s income tax free.
What it really comes down to with fixed and variable annuities is risk and return. With fixed annuities, you’re guaranteed a return. With variable annuities, however, it’s completely different. Your investment will fluctuate with the stock and bond markets. You’re not guaranteed a profitable return, and by investing in a variable annuity, you’re agreeing to take that risk. Sure, you could reap the rewards, but you could also suffer the losses.
This only scratches the surface of annuities. Please do extensive research before doing anything with your money and decide which type of annuity would best fit your lifestyle.
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