Strengths & Weaknesses of Annuities

Annuities are retirement investment products managed by life insurance companies. Multiple types of annuities exist, each with its own unique set of features and benefits. An ongoing debate regarding the pros and cons of these products often pits insurance agents and financial advisors against one another, with each side presenting valid and legitimate arguments.

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Tax-Deferred Growth

Tax-deferred growth is a feature shared by all types of annuities. Increases in your account value will remain untaxed until you actually withdraw the money during your retirement. This feature allows more of your money to continue working, instead of sacrificing a portion of your gains to the government.

Principle Protection

Fixed annuities and equity index annuities offer principle protection. Regardless of the performance of the stock market or the country’s current economic conditions, your entire balance is guaranteed by the insurance company. You will never have less money than you started with.

Death Benefits

Since annuity products are provided by life insurance companies, these contracts contain death benefit provisions. If you pass away before you withdraw the money in your account, the remaining balance gets distributed to your heirs. Additionally, most annuities offer specialized death benefit options that may potentially provide your family with more money than what was actually in your account at the time of your death.

Surrender Charges

Annuity surrender charges are the cause of perhaps the greatest number of debates and discussions regarding the suitability of these retirement investment products. In exchange for all the bells and whistles added to your account, annuity carriers require you to leave your money untouched for a certain number of years. If you close the account or take money too early, the insurance company will penalize you by keeping a percentage of the withdrawal.

Investment Options

Variable annuities allow you to choose how and where your money is actually invested. A list of options called sub-accounts presents a wide range of choices, most of them simply clones of popular mutual funds. Unfortunately, your investment options are limited to only those available within the variable annuity contract.

Internal Fees

Annuity contracts contain a plethora of internal fees and expenses. The life insurance portion of your annuity has “mortality and expense” fees, and every sub-account has its own internal costs that must be paid. When compared to alternative retirement investment vehicles, annuities tend to have much higher operating costs, which detract from the potential growth within the account.

References

Hyers & Associates; Annuity Surrender Charges and Penalties; Aug. 2010
MetLife: Answering Your Questions About Annuities
Smart Money; What's Wrong With Variable Annuities; Aug. 2010
The Motley Fool: Annuity Fees and Expenses

Resources (Further Reading)

Immediate Annuities: Non-Qualified Annuity Tax Rules
Securities and Exchange Commission: Annuities

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This article is a Twisted Nonsense Exclusive! (04/11/2011)