A Beginner's Guide to Understanding Annuities: Types and Benefits

As retirement planning becomes increasingly essential, annuities have become a popular investment tool for those looking to ensure a steady income stream in their golden years. An annuity is a contract between a person and an insurance company, where the individual makes payments into the annuity in exchange for a regular income stream at a later date. An annuity brokerage company can help to choose the best product for you. Here are the various types of annuities available and the benefits they offer.

What is an Annuity?

An annuity is a contract among an individual and an insurance company. In exchange for a lump sum payment, the insurance company promises to provide a series of payments to the individual over a set period, such as a fixed number of years or for the rest of the individual's life. Annuities are designed to provide a steady stream of income in retirement.

Types of Annuities:

There are primarily three main types of annuities: fixed, variable, and indexed.

Fixed Annuities

A fixed annuity provides a guaranteed return rate for a set period, usually one to ten years. Fixed annuities are considered low-risk investments because they guarantee a fixed rate of return, and the insurance company assumes the investment risk. An annuity brokerage company will offer fixed annuities for risk-averse people looking for a stable source of income in retirement.

Variable Annuities

A variable annuity allows people to invest in mutual funds or other investment options. The returns on this annuity are not fixed or guaranteed and depend on the underlying investments' performance. Variable annuities are considered higher-risk investments, but they also have the potential for higher returns. Variable annuities are best suited for those who are comfortable taking on investment risk and want the potential for higher returns.

Indexed Annuities

Indexed annuities are a hybrid between fixed and variable annuities. The returns on an indexed annuity are tied to the performance of a specific stock market index, such as the S&P 500. Indexed annuities provide a guaranteed minimum rate of return but also have the potential for higher returns if the stock market performs well. Indexed annuities are best suited for those who want to balance investment risk and stability.

Benefits of Annuities:

Tax-Deferred Growth:

Most top advisory annuity firms recommend annuities as they offer tax-deferred growth. This means you don't have to pay taxes on the earnings until you withdraw them. This can be advantageous if you plan to exist in a lower tax bracket when you retire. Some annuities also offer tax-free withdrawals, such as if you need to withdraw the funds due to a terminal illness.

Protection Against Market Volatility

They can protect against market volatility. With a fixed annuity, your earnings are guaranteed and won't be affected by market fluctuations. With a variable annuity, you have the potential for higher returns but also bear the risk of market downturns. However, some variable annuities offer riders that provide a minimum guaranteed income even if the market goes down.

Consistent Income Stream

They can provide a consistent income stream. With an immediate annuity, you receive regular payments immediately after you purchase the annuity. With a deferred annuity, you make payments into the annuity and then receive regular payments later, such as when you retire. This can help ensure that you have a reliable source of income during retirement.

Potential for Higher Returns

While fixed annuities offer guaranteed returns, variable annuities have the potential for higher returns. This is because your earnings are tied to the performance of underlying investments, such as stocks and bonds. However, it's important to note that variable annuities come with higher risk and fees than fixed annuities.

Annuities can be a highly valuable investment tool for those looking to save for retirement and ensure a steady income stream. Consulting with an experienced financial advisor can help you make an informed decision. They can give you an existing annuity analysis and ensure you are on track to meet your retirement goals. With a range of options available, including fixed and variable annuities, it's essential to carefully consider your requirements and risk tolerance before choosing an annuity.