Retirement 101: Annuities

Chances are, if you bring up annuities with a bunch of your friends, you'll get blank stares back. The world of finance and retirement planning can feel like a secret club that only a few are privy to the mysterious and foreign workings of. Since everyone will retire eventually, though, it's important to understand the options available to you. Here's a basic primer on what you need to know about annuities.

What Is An Annuity?

An annuity is similar to insurance. You make payments or a one-time lump sum to an insurance company, and in return, the insurance company insures that you will receive regular payments back. It can be set up to begin making payments immediately or not until some agreed-upon point in the future.

The primary goal of an annuity is to provide you with a continuous stream of income to supplement your government social security retirement benefits and any other retirement plans you may have earned from your employer.

The money that accumulates is tax-deferred, which means you won't pay taxes on that money now; they are deferred until the future. This is similar to the 401(k) plans employers offer. Like a 401(k), the money can only be withdrawn after you reach the age of 59 and ½; otherwise, you will be monetarily penalized.

What Kinds Of Annuities Are There?

Immediate Annuity

This kind of annuity begins paying out instantaneously. You pay your lump sum to the insurance company, and they begin making payments back to you. The terms of the payments can be set up according to your financial needs and goals. You may want payments to be for a set time, or you may want them to last until your death. You will also have the option for annual, semi-annual, quarterly, or monthly payments.

Deferred Annuity

A deferred annuity will mature over a set period of time, such as ten years, before it will begin paying out. It is also subject to federal tax penalties if money is removed before the allowed age.

These annuities are further broken down by their inherent risk:

  • Fixed Annuity

A fixed annuity has zero risk; what you paid in, you get back.

  • Indexed Annuity

With an indexed annuity, you have a medium risk of losing or earning additional money. While you will receive a guaranteed minimum payout, it is tied to the performance of financial markets.

  • Variable Annuity

A variable annuity has the highest risk, but it can also have the highest return on your investment. With a variable annuity, you choose which mutual funds you want your money invested in. Your final payments in retirement are based on their performance.

Annuities can be very complex, so it is best to consult with a certified financial planner or your insurance agent to discuss decisions your retirement goals as needs. Contact a company like Fogel Capital Management, Inc.  for more information.