Choosing the Best Retirement Annuity for Your Situation
When it comes to preparing for retirement, it is most common for people to think of the 401(k) or 403(b) plan or some other type of official retirement account. But these are not the only ways to prepare. Contributing to an annuity provides an additional opportunity for preparing for retirement. But not all annuities are the same.
Comparing Annuity Options
The type of annuity you should choose depends on when you will need the money and your tolerance for risk. If you are looking for income to start right away, consider an immediate annuity. Some of the best candidates for immediate annuities are those who are of retirement age and looking for ways to solidify their retirement income without assuming a lot of risk. If you are looking to accumulate and defer receiving payments to a later date, consider deferred annuities.
Whether annuities are immediate or deferred annuities, they can be divided into either the fixed category or the variable category. The most basic fixed annuity offers a guaranteed interest rate on the contributions made to that annuity. Contributors either make one lump sum contribution or make smaller regular contributions, often monthly.
Features of Fixed Annuities
Contributions Bring Guaranteed Income
Fixed annuities are considered one of the safest ways to save and prepare for retirement. You can contribute over several years, or deposit a lump sum. The amount of interest credited to your annuity, whether it is accumulating or paying out, is guaranteed by the insurance company for a defined period of time. If the annuity is paying out, the guaranteed interest rate can be locked in so that guaranteed payments can continue until you, or in some cases your spouse, passes away — even if you live years longer than the statistical average. In most cases, the amount does not adjust for inflation, but there are cost-of-living features available on some annuities. When selecting a cost-of-living feature, it is important to note that the payments you receive will start out lower than if you had not added one and will gradually increase over time.
Are Not Tied to Market Performance
The credited interest with a traditional fixed annuity is simpler than it is for a variable annuity because it depends only on the rate set forth in the annuity contract. Variable annuities pay out based on market performance, and payouts can go up or down depending on those conditions.
Have a Unique Indexed Option
With a straight fixed annuity, the accumulated interest or payout is calculated based on the guaranteed interest rate set forth in the contract. Indexed annuities however pair a guaranteed minimum interest rate with the opportunity to earn higher returns based on the performance of a market index, (such as the S&P 500). Indexed annuities are popular as a retirement annuity because although the annuity does not participate directly in the stock market or in an index's gains or returns, holders of these annuities can still receive extra credited interest when the corresponding index does well. This element and the protection of a minimum interest rate guarantee make indexed annuities attractive to many.
Features of Variable Annuities
Tied to Market Performance
Variable annuities participate in the performance of underlying investments (sub-accounts) and generally the insurer does not guarantee against market losses. There is the potential for greater returns, but the risk is also higher since your principal is not protected.
The growth of your account depends on the success of these investments and if the investment goes well, variable annuities can be a great deal. Because your principal is at risk, you should consider your personal risk tolerance when deciding if a variable annuity is right for you.
Factoring Market Conditions and Risk Tolerance
This is where risk tolerance comes in: With traditional fixed and indexed annuities, you have the protection of a minimum interest rate guarantee, but with variable annuities, you assume the risk of the underlying investments. If a minimum interest rate guarantee is important and index-linked interest rate crediting is attractive, an indexed annuity may be right for you.
Are Annuities the New ‘Pension Plans?’
Because they provide a stable income during retirement, annuities are often compared to pension plans, designed for those who worked for an extended period with a unionized or union-like employer, in part to reward loyalty to the company.
The typical career landscape looks much different today than it did several decades ago. Most people do not devote 20-30 years or more to a single employer and may even explore several fields before they retire.
Annuities can be structured in such a way that the payments you receive are similar to a pension plan. The contribution in most cases is your own, without any employer contributions. Annuities can be a secure and attractive way of generating payments for a lifetime, no matter how long you live.