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Annuities 101

Annuities are a type of insurance product that you pay into now for the purpose of receiving a payment or series of payments at a later date. It is a great way to ensure you have sufficient funds for retirement so that you can live comfortably into your autumn years.

There are several ways in which annuities can be structured. In one scenario, you would pay a lump sum into an annuity and the insurance company will guarantee a set income for life, usually paid out monthly. This is referred to as an “immediate lifetime annuity”.

Another type of annuity is a “deferred annuity”. This would mean that you would contribute an amount every year over a pre-determined period into the annuity. The money held in the account is tax-deferred. Once the term is up, they can then move the money to another investment or use it to make a payment into an immediate lifetime annuity.

An annuity can do one or several things. it can:

  • Pay guaranteed income for a period of time
  • Provide a death benefit
  • Provide long-term care benefits
  • Support asset growth

In essence, your annuity will allow you to enjoy the lifestyle you want to lead, hopefully for as long as you live. An annuity can give you peace of mind in retirement, and it may also help you solve certain tax issues.

Simply put, an annuity will help ensure that you do not outlive your money.

Annuities can be broken down into three types: fixed, variable, and equity-indexed annuities. The latter guarantees the principal, but are also attached to growth in the stock market.

Fixed annuities guarantee a certain rate of interest.

Variable annuities leverage sub-accounts that are spread across various investments – stocks, bonds, commodities, real estate, for example – but the principal is not guaranteed. A variable annuity carries a risk of losing value, but it also carries the possibility of significant gains.

Immediate annuities will begin to pay out to the beneficiary as soon as it is purchased.

Deferred annuities will pay out at a later date.

Annuity tax considerations

All money placed into an annuity is tax-deferred until it begins to pay out. the beneficiary’s age matters too: if the person receiving the money is younger than 59-1/2 years of age, a 10 percent penalty is levied, much like an early withdrawal from an IRA.

The downside of annuities

As with any investment, annuities have their downsides.

No FDIC protection

They are not insured by the FDIC, so they aren’t protected by the federal government. When using annuities as an investment vehicle, be sure to partner with a reputable insurance company.

Penalties for early withdrawal

Your money will be tied up and you will pay a penalty for drawing more than the allowed amount, if you are under 59-1/2 years of age, you will have to pay an additional 10 percent to the IRS.

Annuity tax concerns

Your annuity payouts are taxed just like regular income and are not eligible for long-term capital gains tax.

Speak to a financial advisor about annuity options

Annuities can be an important part of your retirement portfolio, helping you live comfortably and worry-free for life. However, every individual situation is different. Speak with your financial advisor. They are singularly qualified to discuss the annuity options that are best suited for you.

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