Senior Finances 101: Understanding Annuities

Oct 6th, 2010 | By | Category: Senior Moments Blog

Our senior readers have raised some questions about annuities recently, so it’s time again to talk about this kind of retirement investment. SCJ article in May provided information about the AARP Five-Year Fixed annuity that senior citizens would want to consider. There are other considerations you may want to think about as you contemplate where your investment dollars will go and stretch the farthest.

It’s the nature of annuities to be ‘fixed’; it’s easy to get in to them, and very difficult (if not impossible without losing most of your investment) to get out. If you buy an annuity, you need to do so with the understanding that you will have it for life. We seniors are living longer and our retirement dollars have to last longer. If the politicians will keep their hands off our safety net (Social Security), we won’t have to be concerned about replacing those dollars. Annuities are very attractive, but we need to do the math to be sure they are a good investment.

Financial guru, Suze Orman, identifies five types of annuities:
• a single premium deferred annuity,
• an immediate annuity,
• a variable annuity,
• an index annuity, and
• a tax-sheltered annuity.

Each of these kinds of annuities has pros and cons, and needs to be explained carefully. Suze Orman does this exceedingly well, but it’s kinda long for most of us seniors. (For those of you who enjoy reading detailed analyses, go for it! Here’s the link again.)

We will do a five-part series here and try to distill the information for you.

Today, we talk about the generalities of annuities, things that apply to them all:

  • Where do you buy annuities? Financial institutions of different kinds offer annuities. AARP offers theirs through New York Life; brokerage and discount brokerage firms sell them; some banks sell annuities; and most mutual fund companies offer annuities.
  • What is the fee? It’s usually hidden in the contract. If you read carefully, or ask, you will discover the average fee is 5%-6%. This fee is included in the ‘cost’ of the investment.
  • Who owns the policy? The ‘owner’ can be just yourself, or you and another person; you can also designate a successor owner in the event of your death.
  • Is there a death benefit? No. This is not a life insurance policy. Someone has to be designated as the annuitant (can be you or someone else) and that person is the one on whom the monthly income is based depending upon her/his age; the older a person, the larger the monthly benefit; likewise, the younger a person, the lower the monthly benefit.
  • Can I designate a beneficiary? Yes. It just cannot be yourself, if you are the annuitant.
  • What about taxes? Income tax on interest (gains) in the account is deferred until you take it out (monthly payment), with the exception of an immediate annuity which will be explained in a couple of days. This is the real advantage of annuities, and what most brokers emphasize to their clients.
  • How long do I have to leave the annuity intact? That depends on the kind of annuity and the contract. You need to be sure to ask this question and get a clear answer.
  • Is age a consideration? Most annuities have age restrictions, and you need to know what they are so you can do appropriate comparisons.

Tomorrow we talk about the first of the five annuities we will review: A Single Premium Deferred Annuity. Hopefully this series will begin to give you an idea of what annuities have to offer, their limitations and whether or not you want to consider an annuity investment.

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