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Best annuity options for retirement

Best annuity options for retirement

There are so many annuities out there to choose from, and more are popping up every day. One thing any annuity investor must do is investigate and research the various types first. It's important to have a trusted financial advisor or financial planner that is familiar with the market and what types of annuities are offered to the investing public.

Annuities come in all shapes and sizes, and now more than ever, it's important to learn about their bells and whistles when it comes to their participation in the various stock market indices. When you purchase an annuity, you must decide if you want a guaranteed annuity or one that has performance fluctuations. If you take the route of performance fluctuations, you need to think about how much of a fluctuation you want in order to get the tax benefits.

Single Premium Immediate Annuity

The first type of annuity I want to talk about is the single premium immediate annuity, a guaranteed annuity type where you put your money in and it immediately starts making payments back to the owner over a period of time. Only the portion of the payment that is above the initial principal is taxed; in other words, part of the payment that you'll receive back is not taxed and part of it is taxed. Most of it is not taxed because it is a return of principal. Due to the enormous bull market in bonds that started around 1980-1981, annuities are paying historically low interest rates to the investor, meaning interest rates are going down. Guaranteed annuities are going to have very low interest rates on the money that you'll earn. Once you start receiving the payment, there are various types of payout options to choose from for your situation, including life options and joint life options. You can have five-year and 10-year guaranteed options.

On a payout where you have a five-year guarantee-only option, the payment will last for at least five years whether you live or die. However, if you die before those five years are up, all payments stop, even to your spouse or heirs. The same is true for a 10-year guarantee. They will pay for 10 years whether you live or die. If you die before those 10 years are up, they'll continue to make payments to your beneficiary. There's the life-only option, which will pay you your income or your payout for as long as you're alive. Then there's the joint life option, which will pay you and your spouse for as long as you both are living. It's almost like a wedding vow where you vow to love each other as long as you both shall live, until death do you part.

Then you have annuities where you can buy a payout that'll pay for your life with a return of premium option, so if you buy a single premium immediate annuity and you die within a year, they'll give all the money that wasn't paid out of your initial investment to your beneficiary. 

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Single Premium Deferred Annuity

Another type of guaranteed fixed income annuity is the single premium deferred annuity, where the payments will be deferred. You put the money in, you have a guaranteed interest rate, and it's going to pay you for whatever that time frame is. It could be three years, five years, seven years, or 10 years, but whatever the initial payout is, your money will grow before the payments start. Your money will grow at whatever the guaranteed interest rate is each year, and at the end of the time period, you will have the option to roll into another annuity. It could also automatically renew with the same insurance company from which you bought the initial annuity.

These annuities are important for rate shopping, much like getting into rates on CDs. You want to look at annuities and make sure you're getting a competitive interest rate that matches the quality of the company. Insurance companies have financial strength ratings, so you must decide what is the lowest you're willing to go on the financial strength. Let's say it's A, so then you would get rate quotes for all insurance companies rated A or better. You will decide which one you feel most comfortable with and what to do with your financial advisor. At the end of the term, you may decide to have the annuity start giving you payments. Those are two common types of guaranteed annuities. Then we get into hybrid annuities.

Indexed Annuities

There are indexed annuities where you can put your money in and it will be linked to the performance of the underlying index. For the purpose of this article, we're going to use the S&P 500 Index. For example, if you put $200,000 into an annuity and it's linked to the performance of the S&P 500, it could have all types of options. It could give you 10% protection over a period of time, all the way to full protection, where you wouldn't lose your principal regardless of what the index does, but you would have lower upside potential. There are so many different aspects to indexed annuities that we don't even have time to go over them in this article.

There are also bonuses you can receive, which can last three years, six years, one year, or even 13 years. They can have penalties for pulling the money out. I prefer the ones that are penalty-free. They can have no commission or have a large commission. The most important things to consider are the contract, the guarantees, and what your participation in the market is going to be. For example, if you have an indexed annuity that gives you 20% protection, how much are you going to be able to participate in the upside? Maybe it's 200% over a five-year period. They also have riders that you can attach to index annuities and variable annuities (which we will discuss next). These riders will increase your payout if you become sick or if you want to start the payout early, like after you retire.

They have a return of principal guaranteed, so you can pay extra to put your money into an annuity and let it grow. If the markets crash and you pass away, your family is still going to receive what you put in there. Your money cannot have any downside protection in this scenario. It can participate in the stock market underlying index 100% of the time, minus the expense ratios of the funds that track the index. However, the only thing you get is that protection of principal for your family, and it only comes into play if you pass away.

Variable Annuities

Variable annuities are the other type of annuity. It is essentially a tax-deferred account that you participate in the stock market, but it could also be bonds or gold. It could be whatever the underlying asset is, and your account's life and death are determined by the market they're tracking. For example, if you set up a brokerage account at Fidelity, Schwab, or Vanguard, there are no administrative fees.

Despite the fees, variable annuities offer the ability to defer your taxes, whereas brokerage accounts do not. IRAs offer the ability to defer taxes, but if you just put money in brokerage accounts, unless it's a Roth, the after-tax money in them is going to be taxed each year on the long-term gain, the short-term gain, the dividends, the interest, and whatever else the account generates that's legally taxable. With the variable annuity, there are no guarantees of principal. Your money will grow and be tax-deferred based on the performance of the underlying index. It doesn't have to be the stock market; it could be the bond market, gold, or any underlying asset. You can get a guaranteed return on principal.

Let's say you put in $500,000, the markets crash, and the indices show that the value of your account is only $300,000. If you die, your family will get $500,000 because you paid extra. There is a yearly expense for you to have that return of principal rider on the variable annuity. You'll want to find a variable annuity with no commission to get in and the lowest expense ratio on the underlying mutual funds or indices that are being tracked.

The low-cost variable annuities that I use for my clients are from Nationwide and Lincoln Financial.

These are strong companies that offer very low-cost variable annuities to the clients of registered investment advisors or fee-only planners. Fee-based planners can also use them.

Free Retirement Ready Success Call

If you would like us to give you a second opinion on your annuities and how you may be able to improve their performance while lowering the expenses, then click on this link to set up a free, 20-minute retirement rate success call. There's no obligation. We'll take a look at your annuities, and at the end of the call, we'll decide if we’d like to talk again. https://calendly.com/thomascloud/retirement-ready-success-call