Obviously, many of us cant depend on Social Security as a safety net for retirement, so its wise to think about other investment options as early as possible. When you begin to explore your annuity options, take your time and do some research.
--------------
How annuities really work
Annuities come in more than one flavor.
A fixed annuity pays you a guaranteed interest rate, much like a bank CD.
A variable annuity, on the other hand, lets you invest in mutual-fund-like portfolios known as subaccounts.
A third variety, an equity-indexed annuity, is a hybrid: It usually pays a minimum rate of interest but also gives you the chance to share in the gains of the stock market.
Adding to the confusion is the fact that you can use annuities in two ways - to accumulate assets for retirement, or to convert assets into a monthly income.
Given the hype and misunderstanding surrounding these investments, it's no surprise that annuity sales tactics have long topped securities regulators' lists of scams and scandals. Just last May, representatives from the National Association of Securities Dealers and the Securities and Exchange Commission, along with state regulators and consumer watchdog groups, convened in Washington, D.C. to talk about better consumer protections.
Until those protections appear, if they ever do, you have to remain on guard.
With commissions that run as high as 10 percent of what you invest, the incentive for an adviser to push an annuity is strong. Sooner or later, you'll hear a pitch, most likely one of these three.
Sure, sometimes the case for an annuity holds water. But more often than not, the deal is an offer you should refuse.
Equity-indexed annuities. The pitch: Earn stock market returns without the risks
Equity-indexed annuities are hardly the all-gain, no-pain opportunity they seem. While they can shield you from market setbacks, their hefty fees and many restrictions dramatically dampen their growth potential.
EIA returns are based on a benchmark such as Standard & Poor's 500, but that doesn't mean you'll earn full market returns.
In addition to excluding dividends, most EIAs limit how much of the index's return you can collect - 70 percent, say - or simply cap your annual gains.
[For example, your] max is 7 percent, [the] insurer has the right to reduce it to 4 percent. Even if the S&P 500 rises much more, [you] will get no more than a 7 percent gain.
At least a 7 percent cap is easy to grasp. In many other cases, insurers base your return on complicated systems that involve averaging the monthly closing price of the S&P 500. Although this protects you against falling stock prices, it also makes it exceedingly difficult for most people to figure out their return.
"You practically need a Ph.D. in finance just to understand how the return is calculated, let alone assess whether it's a good investment," says Craig McCann, president of Securities Litigation & Consulting Group, a firm that does research for lawsuits involving annuities.
Yet another drawback to an EIA is that you may have to pay steep fees to get at your money.
If you want to earn market returns but can't afford to put all your money at risk, a better strategy is to create a diversified portfolio of low-cost stock and bond funds. While this approach doesn't guarantee that you'll never lose money, it does give you the best combination of growth potential and risk reduction.
IRA rollover annuities. The pitch: Protect your IRA money from market downturns
When you roll over money from a 401(k) into an IRA, you may find yourself on the receiving end of an annuity sales spiel. The reason: With an estimated $1.7 trillion expected to flow into IRA rollovers between 2005 and 2010, according to research firm Cerulli Associates, this event is a commission honeypot.
It rarely makes sense to put your IRA rollover into an annuity if you're switching jobs or still investing for a retirement that's years away. After all, your gains are already sheltered from taxes in an IRA. But that doesn't stop insurers and advisers from touting annuities as an ideal rollover investment. Indeed, last year MassMutual launched an "IRA Annuity Rollover Campaign" that homes in on job changers.
Annuity issuers freely admit that an annuity's tax benefits are essentially worthless when it's held inside an IRA.
But, the pitch goes, it can still pay to buy a variable annuity within an IRA because of extras called living benefits.
One particularly alluring add-on is what's called the guaranteed minimum income benefit. This feature promises that if you hold your annuity for long enough (at least 10 years), you can count on collecting a certain retirement income, even if your annuity loses money.
The drawbacks As emotionally appealing as this assurance may be, its financial value is questionable.
First, there's the cost - usually 0.5 percent a year or more. Add that to the typical variable annuity's hefty expenses and then throw in one or two other bells and whistles, and you could end up paying upwards of 3 percent a year.
In the meantime, the income you're being guaranteed is underwhelming, to say the least, because insurers base it on ultralow payout rates designed more to protect them than to provide income to you.
Think of it this way: For the guarantee feature to be a good deal, one or more improbable things would have to happen. Your investment returns would have to be abysmal - say, 1 pecent a year for a decade - or years from now insurers would have to slash payout rates so severely that your guarantee is better, which is likely only if interest rates drop to below 1 percent or if life expectancy rates rise dramatically (thanks to a cure for cancer, perhaps).
You want to shell out 3 percent a year for those slim odds?
--------------------
You can compare annuities at:
immediateannuities.com
Linear Mode
