Annuities Made Simple
A great
investment, but so misunderstood! This page will
summarize the most important features of annuities and
give you links to more information. Spend five minutes
on this page and you’ll know whether you should spend
more time investigating annuities. For more information
on these topics, check the box on the right.
Is an Annuity Right
for You?
Two of the most important
reasons why people buy annuities are:
1.
While they’re saving for retirement they buy
annuities to defer taxes—perhaps enabling them to save
more than with taxable investments such as mutual funds.
If you’re saving for retirement, an annuity may be right
for you, especially if you’ve already exhausted other
alternatives such as IRAs,401(k)s, and 403(b)s.
Annuities are especially appropriate as a long-term
investment alternative to mutual funds.
2.
Once you retire, an annuity can generate monthly
income as long as you live. With life expectancies
increasing and the length of retirement growing, income
for life can be a very attractive feature.
Fixed vs. Variable
The distinction between
fixed and variable annuities is one that often confuses
investors.
Fixed annuities are often
associated with the payout stage, and variable annuities
are more often associated with the savings or
accumulation phase. However, both types of annuities may
be used to save for retirement, and both types may be
used to generate monthly payments once you retire.
With a variable annuity
the payout varies depending on the investment returns of
the funds you chose. Fixed annuities provide fixed
payments or payments that vary based on a predetermined
formula.
Subject to important
differences, variable annuities are similar to mutual
funds in that their values will fluctuate with the
market. Fixed annuities offer a more conservative
approach for those unwilling to take on market risk.
Annuity Taxation
The most important thing
to remember about annuity taxation is that as long as
you don’t take money out, there are no tax consequences
for having an annuity. Not only are taxes not due during
the accumulation phase, but you don’t have to report the
annuity on your tax return at all. (No 1099 forms!) When
you make withdrawals or begin the payout phase, you’ll
begin getting 1099s.
Two other important
points regarding taxation:
-
Whether you’re in the payout or accumulation stage,
any income you actually receive from an annuity is
taxed as ordinary income rather than as capital gains.
- If
you withdraw money prior to age 591/2, you may be
subject to an IRS tax penalty of 10% of the accrued
earnings.
Annuities and Other
Retirement-Oriented Investments
Even if you’re not yet an
annuity expert, you’re probably familiar with other
types of investments that can be used to save for
retirement or provide income during retirement.
The following chart
compares different types and forms of investments and
retirement-oriented financial products. We assume that
an "outside" annuity or "outside mutual fund" is not
part of any 401(k) or IRA.
|
Outside annuity |
Outside
mutual funds |
401 (k) |
Traditional IRA |
Roth IRA |
Deducted from
paycheck before tax |
no |
no |
yes |
no |
no |
Type of taxation |
income |
dividend/
capital gain |
income |
income |
none |
1099 before
payout/withdrawals |
no |
yes |
no |
no |
no |
Tax deferral |
yes |
no |
yes |
yes |
yes |
Investment limit |
no |
no |
yes |
yes |
yes |
Early withdrawal
penalty |
yes |
no |
yes |
yes |
yes |
Employer sponsored |
no |
no |
yes |
no |
no |
Deductible from
income tax* |
no |
no |
no |
yes |
no |
* If meets income criteria.
Things to Consider in
Choosing an Annuity
Once you’ve decided an
annuity may be right for you and chosen the basic type
of annuity—fixed or variable, accumulation or
payout—you’ll have to choose among many different
annuities from hundreds of companies. We’ve made the
process a lot simpler by gathering some of the best
annuities, both variable and fixed, from leading annuity
providers.
Some of the most
important things to look for include:
Fees and expenses
What is the asset charge?
How about fund fees?
Is there a surrender charge?
Are there other expenses?
Fund Choices
How many funds can you
choose from?
Are you allowed to switch funds without Expense?
Are these the funds you want?
Who are the fund managers?
What are their track records?
How Do You Get
Information and Manage Your Account?
Over the Net? Is
information available all the time?
Is it easy to use the customer service section?
Who Stands Behind
Payment of the Annuity?
How long have they been
in business?
Are they a stable company you can expect to be around
long into the future?
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