What are the benefits of getting a variable annuity? Of course, otherwise, variable annuities would not exist. But… You have to be careful. These annuity products fit the needs and desires of certain investors, but they also have a variety of drawbacks to watch out for.
By definition, variable annuities have “up” sides and “down”sides, which means that not every investor will want to choose them. Let’s take a moment to list the mot obvious up and down sides to variable annuities
Unlimited Contribution: This point is almost never discussed. Unlike other retirement plans (IRA, 401K etc.) variable annuities have no limit to the contribution amount in any given year. This makes variable annuities a great place to allocate larger sums of money rather than being subject to the typical annual contribution limits.
Guaranteed Death Benefit: This variable annuity rider will ensure that a certain amount of money is paid to your beneficiaries in the event you pass away before the contract expires. The amount of money paid by the guaranteed minimum death benefit can be determined in two ways. This amount will either be equal to the initial amount you invested, protecting your beneficiaries from any market slumps, or it can be the sum of your initial investment and a designated interest amount which will be credited annually. It is important to understand that should your investments provide more money than the guaranteed minimum death benefit, the death benefit will not take effect, due to the fact that your beneficiaries will receive the full amount of your account.
Guaranteed Income Benefits: variable annuities have a myriad of income benefits, so we’ll stick to two of the most common.
If you plan on annuitizing your annuity (making it a steady stream of income), you will want to look into a guaranteed minimum income benefit (GMIB). The GMIB states that you will receive a guaranteed payment regardless of market conditions. However, if the market is healthy, the GMIB lets you take part and earn a profit in the form of increased revenue. Plus, you never have to worry about not getting your minimum guaranteed income.
If you want to take advantage of the guaranteed lifetime withdrawal benefit (GLWB), you will have to do so while your annuity is in the accumulation stage. This rider guarantees a withdrawal basis equal to the initial investment plus an annual interest credit to that basis (usually between 6% and 7%) regardless of the performance of the underlying account value. The annuity still runs will the market but the benefit protects you from a sudden downturn. Also, when you begin to take income, the account still fluctuates with the market and gives you the added benefit of seeing your monthly payments increase over time.
Tax Deferral: Certain plans allow this feature to be used, but most private accounts prevent this. Tax shelters are very important; securities that are subject to annual taxation will always underperform in comparision to those that are sheltered. Also, people rarely stop to think about how damaging the annual taxation can be. History has shown that most people do not pay their taxes by redeeming mutual fund shares. Instead, they either write a check from a different account or take a reduced refund. So, the account is not what suffers, but your pocketbook does.
Negatives: High Fees: Experts agree this is the most important factor. All of the additional riders on variable annuities come at a cost. With all the bells and whistles, annuity contracts can run fees as high as 3%. This is a terribly high amount, one that will cancel out any tax advantages you’ll have received from your annuity strategy. For this reason, fees associated with variable annuities require serious scrutiny. What can you get out of having all the extra riders? Are they really something that you need and/or want? By getting rid of some of the riders, you will be able to decrease the annual fees you will have to pay.
Limited Investment Choices: How you allocate the money in your variable annuity is usually limited to 30-40 various funds. As a result, it becomes difficult to change your investment game plan as the market changes over time. When you compare your allocation options in variable annuities to those in a 401k, you will see that the the variable annuity is much better. However, when comparing it to the options in an IRA or a private account, the variable annuity is the one that falls short. For those investors that have a family of funds that they like, a variable annuity may meet your needs. However, if you are an active trader, you will most likely desire more freedom with your investment options than an annuity can provide.
Inflexibility: When looking at annuity contracts with GMIB or GLWB riders, you may find that any ‘guaranteed’ amount that is received will not safeguard your principle, instead, it only safeguards your future withdrawals. It’s a little bewildering, but it is a vital part of understanding how to find a strategy that promises you safety, flexibility and profitability. These contracts severely limit flexibility. Additional free resources on these products are available by clicking on our links listed below.
If you are thinking about investing in variable annuities, the information in this article should help you get started on the right foot. Don’t forget there are a host of other factors an individual must consider before a long-term decision is made. It is very important that you have a full understanding of all the benefits and drawbacks of variable annuities before you decide they are the way to go.
For a more in depth analysis of the pitfalls of Guaranteed Lifetime Withdrawal Benefit annuities, be sure to visit AnnuityStraightTalk.com for a free report. You can also find everything you need to know about annuities by reading our Annuity Report. This report does not limit information to what you want to hear.