Annuity products are all over the news because of their importance in retirement income planning. They are the only investment product that offers the security that you won’t run out of money for as long as you live. Although annuities are very valuable, many people have questions about the products and how they are used. U.S. News & World Report’s Jeff Brown recently offered up “3 Things to Know About Immediate Annuities” to help better explain these often misunderstood products. Stocks are unreliable and bonds and bank savings pay very little to investors, making immediate annuities the best way to create a personal pension. Perhaps the main advantage offered by immediate annuities is that they pay guaranteed income for as long as you live without you having to worry about what happens in the market or the economy. Even though there is the potential to get more income with other investments, none of it is guaranteed.
The article first explained how an immediate annuity works. A 67-year old woman purchasing an annuity for $100,000 would receive $6,667 in income for the rest of her life, for a 6.67% yield. Part of that yield does include the principal that she paid in. The first 14-15 years of annuity payouts are likened to a return of your principal, then the rest is an investment return. If you die sooner than your life expectancy, you lose the money that you put into your annuity. You also cannot take money out in the case of an emergency. This is why it is wise to use other investments to provide for an emergency fund and leave money for your heirs. Inflation is something else to consider when purchasing an immediate annuity. You won’t lose buying power over time if you add an inflation rider to your immediate annuity, but your payouts will be lower overall. Consider all of these things when you are looking into buying an immediate annuity product.
Another issue worrying many Americans right now are low interest rates. People wonder if they should buy an immediate annuity now when rates are lower or if they should wait for interest rates to rise. Higher interest rates mean higher payouts from the insurance companies. It would certainly be smart to wait a year to buy your annuity if you knew that interest rates were going to rise, but we have no guarantees about what will happen with interest rates. Waiting means that you will lose out on the income you would have received if you have bought the immediate annuity now. The article says that if you know you want to purchase an immediate annuity, it is best not to wait on interest rates to rise. You can also receive higher payouts if you wait to purchase an annuity until you are older. The woman in the above example would receive $7,608 per year if she waited five more years to buy her annuity. But in that five years, she would have received $33,000 in income had she not waited. You have to balance all of the factors before deciding when to buy an immediate annuity.
Finally, U.S. News looked at who would actually benefit from an immediate annuity. The first type of person is one who needs income to bridge the gap between their monthly expenses and their other income sources, like Social Security. The second criteria would be anyone who is nervous about investing in volatile markets and the third would be someone expected to live a very long life. Those people who meet these criteria would still be best suited not to invest all of their money in an immediate annuity, but to figure out how much money would offer them the income they need to live the rest of their expected life. Other savings can be invested in more liquid accounts that have the potential for higher gains or death benefits. Research insurance companies, financial strength ratings and the possible payouts from different immediate annuities before purchasing one. The article also recommends speaking with a reputable advisor to help determine whether you need an inflation rider or other annuity options. Immediate annuity products are beneficial to many people seeking guaranteed lifetime income, but there is a lot to consider before making an annuity purchase.
Written by Rachel Summit