The Benefits of Annuities

» Posted by on Aug 15, 2011 in Retirement Planning | Comments Off on The Benefits of Annuities

An annuity is an insurance policy that insures you against running out of money. The idea of an annuity has literally been around since the Roman Empire as a retirement plan for Roman soldiers.

Annuities are widely used today in retirement plans, however you may be surprised to learn that they are not used the way the Romans used them.

(The Wade Agency will perform a calculated projection of how your current retirement plans are likely to play out under the best and the worst of circumstances. There is no charge for this service and the projection can be run again anytime your circumstances change. Just contact us to set up an appointment).

Fixed Rate Annuity

Originally called an equity-indexed annuity, a fixed rate annuity or fixed index annuity generally guarantees a minimum return on your original investment. But, with a fixed rate annuity, the investor can still lose money if they cancel the policy early and their performance is usually tied to a stock market index such as Dow or S&P. A plus for fixed rate annuities is that most do not have a fixed rate of return, but a gauranteed minimum rate and a first year introductory rate. The first year rate can be determined by the insurance company, but in most cases has a minimum amount of 3%.

Life Annuity

A life annuity is meant to provide an income for life for the annuitant and works similar to a loan made by the purchaser to the inssurance company. It pays back the original untaxed principal with interest to the annuitant which the life annuity is based. The period of the loan is based against the annuitant’s expected life.

Most Annuities Are Never ‘Annuitized’

Because when you annuitize, or turn on the annuity payments from you annuity policy, you can’t turn the payments off and the payments stop when you die. Nothing is left for your heirs or even your spouse.

So, why are annuities becoming such a popular part of many retirement plans?

Some of the benefits of annuities that have attracted those planning for retirement are

Tax Advantage – A Benefit Of Annuities

Annuities can grow based on interest credited or securities market growth but are not taxed until the funds are withdrawn from the annuity. Therefore, since the all of growth of the annuity is reinvested back into the annuity for more growth and not diminished by annual taxation, more of your money is left in the annuity by which to compound the growth. The IRS is not getting the money as you earn it. The IRS only gets to collect on your growth after you’ve compounded the value of your fund for as long as you keep it in your retirement fund. Compare this tax-deferred growth to the growth of another safe investment, a Certificate of Deposit (a CD). If you own a CD, you will receive a 1099 income statement every year, which indicates income taken for that year and will go toward your taxable income for that year, even if you leave your money in the CD after realizing the growth. So you are paying taxes each year on the growth that your CD has realized that year and the money you pay in taxes is no longer available on which to compound growth of your retirement fund.

Insurance Of Your Principle

Fixed Annuities and Fixed Indexed Annuities insure your principle against loss. Fixed Annuities are credited each year with interest according to a Declared Interest Rate.

Fixed Indexed Annuities are Fixed Annuities that have the added dimension of an index that will track one of the market indexes, such as the S&P 500 and will credit an amount which is equal to part (not all) of the amount by which the market index grows. However, when the value reflected in the market index diminishes, the amount that you have accumulated in your Fixed Indexed Annuity does not diminish.

There is another class of annuities called Variable Annuities. A variable annuity includes an account that is invested in securities. Thus, the value of variable annuities can swing widely – both up and down. It’s possible that a variable annuity will enjoy even more of a market upswing when the securities market grows than will a Fixed Indexed Annuity. However, the value of variable annuities can actually decline to a level below the principal that you invested, so the consideration of insurance against loss that is enjoyed by fixed annuities and fixed indexed annuities, does not apply to a variable annuity. In fact, a Variable Annuity is considered to be a security.

When may Fixed Indexed Annuities may be an appropriate part of a Retirement Funds Portfolio?

When you may need some of the money in your portfolio within the next 10 or 15 years and you’d still like it to grow in value.

In the last 75 years, the S&P 500 grew 10.37 % (Compound Annual Growth Rate). This fact illustrates the value of the securities market for funds that will not be needed for a long time. It’s no secret however, that the securities market may not yield the same growth when asked to perform over a shorter period of time. During the last 10 years, when the S&P 500 grew 1.31%, many Fixed Indexed Annuities have been back tested to yield over 5% per year for the same 10 year period. This is because, during the periods when value of the market has gone up substantially and then gone down almost as substantially, the value of the funds in the Fixed Indexed Annuity only experienced upswings realizing part of the market upswing, but never losing value when the market lost ground.

When May Fixed Indexed Annuities Not Be Appropriate?

  • Fixed Indexed Annuities are probably not appropriate for funds that you will need to withdraw within a year, because there is usually a surrender charge applied for any funds withdrawn within the first year from the date the annuity is issued. Bank instruments, in which the funds are FDIC insured and can be accessed in a shorter time should be considered.
  • Fixed Indexed Annuities are probably not appropriate when you will need access to most or all of the money invested within the first few years from the date when the annuity is issued. To cover the costs incurred by the insurance company when issuing an annuity, there is a contract period that may be five to 10 years. During the contract period, you can generally withdraw up to 10% of your money per year from your annuity without any surrender charges.

Taking Income From Annuities

As mentioned above, most annuities are never annuitized, that is most owners of annuities don’t turn on the annuitizing function, which will pay the annuitant a fixed amount of money each month until the annuitant dies. This is because owners of annuties usually

  • Don’t want to lose control of when the money in the annuity is dispersed
  • Don’t want to lose the growth benefits of the annuity
  • Would like to have a chance to pass the money in the accumulated value of the annuity on to a spouse, an heir, a charity or an estate.

Income Riders

In recent years the Income Rider has been introduced to Fixed Annuities and Fixed Indexed Annuities.

An Income Rider is a way for the owner of the annuity to start receiving income and stop receiving income from the annuity at will, thus eliminating some of the disadvantages of annuitizing (see above) while still providing lifetime income. Income Riders have emerged in the last few years and are very popular.

CAUTION: It’s important, however to point out some possible reasons for which an income rider is not a good idea.

In the insurance world, anything that is called a rider could also be called ‘additional insurance’. The insurance company will charge for the income rider when it is added to an annuity, even if the insurer states there’s no additional charge because sometimes the income rider is built into, and priced into the annuity. If you get an income rider, you will pay for it. The cost of the income rider is most often deducted from the accumulated value of the annuity, leaving less money for you to withdraw, or pass on to your spouse or to your heirs.

When considering an annuity, one should consider if he or she is likely to ever want to take income from the annuity. If income is to be taken, perhaps a better way to take income from the annuity is to simply withdraw the funds and eliminate the cost of the income rider.

So, what information goes into making this decision?

Glad you asked.

Today’s technology has given us software that equips us to prepare a calculated projection of how your retirement plans will play out and, based on your goals and your resources, whether, when and how you’ll ever want to take income from your annuity.

The input includes your assets, any pensions if you have them, your projected social security payments (we have software to project that too), your current income etc.

The output of the software will project how well your existing plan will work if everything goes well, if there are special challenges like a market downturn or two, or if you or your spouse need Long Term Care.

If the output indicates that you might want to make some changes to your plans, it’s very easy to run the projection again, taking the changes into consideration.


We don’t believe it’s wise for any professional who gives counsel regarding Retirement Planning to state that annuties are always a good idea, or that annuties are never a good idea. Annuities have their place, but the decision to purchase an annuity, or what kind of annuity to purchase requires careful consideration.

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