3 signs you may want to buy an annuity, a type of insurance that guarantees you income in retirement

  • An annuity is an insurance contract that promises you guaranteed payments later in life.
  • Some annuities are very complex, and they often come with high fees that make them a poor deal.
  • If you want guaranteed income in retirement or an easy investment strategy, consider an annuity.
  • Get a second opinion on your retirement plan from an advisor. Set up a free virtual consultation today »

If you’ve been planning for your retirement and researching all your options, then you probably have a decent understanding of what annuities are all about. If not, you can think of an annuity as an insurance contract that guarantees you regular payments now or in the future. You invest your money into an annuity now, and you get the benefit of guaranteed income later on, when you plan to retire.

Unfortunately, annuities have gotten a really bad rap, mostly because some annuities are overly expensive and poorly constructed. Some consumers who don’t know about the different types of annuities will get upset at the mere mention of this financial product, usually because they have dealt with a pushy financial advisor or heard horror stories about annuities with high fees.

I remember an older gentleman I met with several years ago who was in this position. This person was already retired, and he had a sizable amount of cash in his 401(k) and an IRA. I initially mentioned annuities to him because he said he was worried about stock market volatility, and he looked at me like I was trying to snake oil.

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I got the feeling he’d had a bad experience with an agent trying to sell him an annuity he didn’t need, so he dismissed me right away. Unfortunately, he didn’t realize that different types of annuities exist, and that one might be a good fit depending on his goals. 

Interestingly, he came back into my office a later after further market volatility with the goal of purchasing an annuity no matter what. Apparently, he had done some more research on how annuities can work, and he had realized he was older and that his health was deteriorating. Ultimately, that meant he was looking to purchase an investment that could secure a portion of his portfolio and provide him with guaranteed payments.

Signs an annuity could be a good fit for you

While plenty of annuities are too expensive and overly complex, some can actually be a good deal for the right type of investor. Here are some signs an annuity could work for you, provided you do your homework and consider all the pros and cons.

1. You want guaranteed income

The main reason to purchase an annuity is if you want a full-fledged guarantee in terms of the income you’ll receive in the future. Unlike stock market investments where you could earn money or lose money along the way, many types of annuities (like fixed annuities) promise to give you an exact amount of money for a specified timeline, which you can count on without any risk.

This makes annuities a good option for individuals who worry about outliving their savings, or anyone who wants to build a pension-like income stream they can rely on later on. Some annuities even offer a guaranteed increase on the future monthly benefit, which can help account for inflation as time on. 

2. You want an easy investment strategy

Once you purchase an annuity, you can receive the guaranteed payment for the rest of your life, even if you live far longer than you planned. You don’t have to wonder if your investment will earn the type of return you had hoped for, and you won’t have to adjust your lifestyle later due to insufficient investment returns.

If you know you’re going to receive a fixed amount of money from Social Security and you can buy an annuity that will pay out enough to cover the difference in your living expenses, for example, this strategy can provide you with a no-hassle plan to lock in the retirement money you need. 

3. You want to leave money to your heirs when you die

When you buy many types of annuities, your heirs are guaranteed to receive at least the amount you paid in by the time you died. With some types of annuities, you’ll continue receiving payments until you die, but your payments will continue for a set amount of time even after you die. In that case, your beneficiary will get the payments.

This means that annuities let you pass on some money to your heirs, even if it’s less than it could be if you invested elsewhere. Just keep in mind that gains generated by annuities are counted as taxable income for your beneficiaries.

What to watch out for with annuities

While annuities can be a good fit for individuals in specific circumstances, I would never suggest putting all your eggs into this basket — even if you’re petrified of volatility and market risk. At most, you shouldn’t put more than half of your portfolio into an annuity.

Also, make sure you’re researching all the options out there, and watching out for potential pitfalls. For example, annuities often come with incredibly high fees that can make them a poor choice when compared to other options, and they frequently charge surrender fees that can make liquidating your investment cost-prohibitive.

Generally speaking, it’s best to max out tax-advantaged retirement accounts like a 401(k) account, a Solo 401(k), or a SEP IRA plan first, then turn to other options after that. If you have extra money to save for retirement, the guaranteed returns annuities promise can provide income and peace of mind.

Jeff Rose is an entrepreneur disguised as a certified financial planner, author and blogger. He’s best known for his award-winning blog GoodFinancialCents.com and book, “Soldier of Finance: Take Charge of Your Money and Invest in Your Future.”

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