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Annuities in Retirement: Assessing the Pros and Cons of Annuities

Retirement plans are as individual as the people they support. And what worked for previous generations, such as a pension, inheritance or Social Security, may not fully support your financial future. As times change, it’s important to be aware of all the potential ways of securing your retirement.

Fortunately, you have many options for a financial solution, including one that may not be as familiar to you as IRAs and 401(k) plans: annuities. There are many annuity benefits, guaranteed retirement income being one of them; these three words are enough to make anyone give annuities strong consideration. Exploring the pros and cons of annuities is essential for making informed decisions about your financial future.

What is an annuity? 

An annuity is a contract between you and an insurance company in which the insurance company makes a series of regular payments to you in return for a premium(s) you have paid. Some annuities may allow you to withdraw a portion or all of your value before payments begin. Annuities differ from life insurance in two important ways. Usually there’s no medical underwriting involved in an annuity contract, and your annuity can start making payments before your death.

For example, with a deferred annuity, you make either one lump-sum payment or periodic payments, which accumulate tax-deferred earnings until you begin to make withdrawals or convert the policy to income. For Roth funds, earnings are usually tax-free, as long as withdrawals occur after 59½.   

Another option is an immediate annuity, allowing you to convert a lump-sum contribution into payments that start within the first year or instantly, depending on your contract, which is helpful for those close to or already in retirement. 

You may be wondering how annuity payments are calculated. Insurance companies rely on payout rates to calculate payments for most annuities. The payout rate will tell what percentage of your premium you’ll receive each year. Payout rates are based on the age and gender of the live(s) the payments are based on and also the annuity option you select. Each contract will have a set of guaranteed minimum payout rates and companies may provide higher rates depending on their current immediate annuity rates.

Like any important decision, it’s beneficial to weigh the pros and cons of an annuity. 

Pros of annuities

Guaranteed lifetime income

There are several ways to save for your retirement, but only one can truly guarantee retirement income for the rest of your life. An annuity can help remove the worry about outspending your savings in retirement by providing a guaranteed income stream regardless of market performance. Also, with a life contingent option, you can’t outlive the guaranteed payments.

Tax-deferred growth

Unlike a 401(k) or IRA, there are fewer limits on contributions with an annuity. With a deferred annuity, you’re able to grow your savings over time without paying taxes on the interest until withdrawal. There are limits on new deductible IRA contributions or new Roth contributions into an annuity, but not on non-deductible, non-qualified contributions or for any rollovers from other deferred accounts.

Fixed interest rates

For those who value stability, the benefits of fixed interest rates are undeniable. You can avoid volatile market swings with a competitive, fixed interest rate. And while you’re contributing, your interest rate will never go below a specified minimum. Your rate will stay fixed for a period of time, typically one year or more, depending on the type of contract you choose. Among the pros of annuities, the advantage of stable interest rates stands out.

Flexible options

You may not be sure of when, but you know you want to retire comfortably. If you’re already in retirement, you know you don’t want to run out of money. From deferred annuities to immediate, there are different annuity options to suit your needs. For a deferred annuity, you can chose to take some or all of your account in ad-hoc withdrawals, instead of taking income overtime with fixed payments.

You can customize the way you receive income. It can be over your lifetime or a specified period of time. Depending on your annuity contract, you’ll be able to choose when and how to receive your payments: monthly, quarterly, semiannually or annually.

Death benefits and legacy considerations

You can customize your annuity to leave a legacy for your family after your death. Your beneficiaries will be able to receive regular payments or a lump-sum payment from your annuity based on the terms of your contract. You’re not limited to family; you can also leave your money to a charity or nonprofit organization

There are numerous annuity benefits that can be essential to a successful retirement. Before you decide to move forward with an annuity, you should know some of the risks.

 

Cons of annuities

Fees and charges

One of the most prominent deterrents against annuities are the fees and charges. An immediate annuity will typically have fewer fees associated with it than a deferred annuity. Understanding the cost of an annuity can help decide whether or not it’s right for you.

  • Administration fees and morality expenses: Your provider will likely charge a fee for managing your annuity and taking on the risk of your contract. These fees and expenses usually stay below 1.5% of your contract for variable annuities. Any underlying investment funds in a variable annuity, as well as some optional riders, usually have their own fees. Unlike some fixed annuities, Amica annuities don’t have administration fees or charges. 
  • Surrender charges: You may be penalized if your withdraw money from your annuity before the end of the contract. Surrender fees typically start high and decrease as the contract matures.1

Lack of liquidity

Annuities require an investment to get started. Whether you’re contributing a lump-sum or making small deposits, the liquidity of your assets will matter when it comes to annuities. Having your money in an annuity may prevent you from handling unexpected expenses in the future. Compared with other investment options like money market funds, mutual funds and bonds, annuities are less liquid. In exchange for that loss of liquidity, an annuity can provide a more certain future value, with a guaranteed rate of return.

Potential for lower returns

While a fixed annuity may offer more stability, there may be less opportunity for growth. If your rate is fixed, you’re unable to benefit from higher interest rates during the period of time you’re locked into the rate. 

Tax implications upon withdrawal

Your investment will grow tax-deferred before the withdrawal period. Once you start receiving payments, it may be taxed as ordinary income. If you’re in a position where you need a portion of the money in your annuity before the withdrawal period, you may be subject to a 10% income tax penalty if you’re younger than 59½.

Potential for company insolvency

The financial stability of your provider can affect your annuity. If able, research the financial strength of your chosen company before purchasing your annuity.

Bottom Line

As you evaluate different retirement products, it's crucial to consider your personal and financial retirement goals. The pros and cons of an annuity should be weighed carefully. The additional annuity benefits may emerge as the deciding factor in determining if a retirement annuity aligns with your financial strategy and is the right choice for you.

By purchasing an annuity, you can take a step toward securing a reliable source of retirement income – no matter how far from or close to retirement you may be.

Learn more about Amica’s annuity products

or call 844-786-0697

to speak with an Amica Life annuity representative for personalized recommendations before making a decision. 

1Annuity Fees and Commissions
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ALIC00324 Feb-29