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Annuities: A Comprehensive Guide

What Is an Annuity?

An annuity is a contract purchased from an insurance company, bank, mutual fund company, or brokerage firm. Some annuities invest your premiums, allowing them to grow on a tax-deferred basis for a specific period. Others provide periodic income payments for a set time, potentially covering you until death.

Types of Annuities

Here are the three main types of annuities:

• Fixed Annuities: These low-risk annuities offer fixed payments and a guaranteed rate of return. They are predictable but may not keep pace with inflation.
• Variable Annuities: Your premiums can be invested in assets like stocks, bonds, money market funds, and mutual funds. Returns depend on investment performance, and they eventually transition to a payout period with guaranteed minimum payments.
• Indexed Annuities: These offer both a guaranteed return and a return tied to a stock market index such as the S&P 500, combining features of fixed and variable annuities.

Can You Lose Money in an Annuity?

While annuities are generally considered safe, it is possible to lose money due to fees and the lack of FDIC insurance. It’s essential to weigh the pros and cons before purchasing an annuity.

Benefits of Annuities

They Can Help You Save for Retirement

Annuities can provide a guaranteed stream of income in retirement, offering peace of mind if you’re concerned about outliving your savings. They can be part of a larger retirement plan, including 401(k)s, IRAs, Social Security benefits, and more.

They Can Provide Diversification

Diversification is crucial in investing to spread out risk. Including annuities in your portfolio can help diversify your retirement income.

Some Annuities Provide a Death Benefit

Certain annuities have a death benefit provision, allowing you to leave a portion of your annuity payment to a beneficiary. Joint-life annuities provide higher payments when both individuals are alive, with reduced payments for the survivor.

Risks of Annuities

Fees

Annuities can include various fees such as agent commissions, administrative fees, surrender penalties, early withdrawal fees, mutual fund fees, and mortality and expense risk fees.

Returns May Lag Behind Other Investments

While annuities are low-risk, their returns may not be as high as other investments. Fixed annuities provide a guaranteed return that may not keep up with inflation.

Annuities Are Not FDIC-Insured

Annuities are insured by state guaranty associations, with coverage levels varying by state. Most cover at least $250,000 per customer, per company, but certain types of annuities may be excluded.

Should You Buy an Annuity?

Whether annuities are right for you depends on your financial situation and long-term goals. They might be suitable if you want guaranteed income payments in retirement, diversify your investment portfolio, leave a death benefit to a beneficiary, or find a low-risk investment.

What Is Better Than an Annuity for Retirement?

Other retirement accounts, such as 401(k)s, Traditional IRAs, and Roth IRAs, offer tax benefits and may be better suited for building your nest egg.

The Bottom Line

Annuities can be a valuable part of your long-term financial plan, especially if you seek guaranteed income in retirement. However, consider potential fees and compare them with other investment options.

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