Planning for retirement is a complex issue, with equal weight given to retirement income and capital growth. Recent trends have made variable annuities a very popular retirement planning instrument, stemming from the guarantee of stable income. However, with the vast array of retirement annuity options, it is important to navigate the field carefully – taking caution not to pay any excess fees and expenses.
The Fundamentals of Annuities
Variable annuities are offered by insurance companies, who will provide income payments to the investor through a set period of time. Fundamentally, variable annuities comprise of mutual funds, but unlike funds, variable annuities will make income payments for the remainder of your life. Therefore, purchasing variable annuities can guarantee you retirement income, helping alleviate concerns that your savings will not suffice for your full retirement years.
Pros and Cons of Variable Annuities
There are several characteristics of variable annuities that make them a more effective retirement instrument than taxable investment options:
- The dividends on variable annuities are tax-deferred, instead of taxed on receipt
- Variable annuities’ capital gains are also tax-deferred
- Capital gains from variable annuities are taxed at standard income rates, not capital gains brackets
- There are death benefits for your spouse or beneficiaries associated with variable annuities.
- You can convert to different annuities that contain a lifetime guarantee, without any conversion-related immediate tax penalties
- There are no probate considerations with annuities.
- Variable annuities are protected from lawsuits in some states.
Like all financial instruments, there are several drawbacks associated with variable annuities:
- There is a 10% penalty on withdrawals before the retirement age of 59 ½, but this is generally only calculated based upon the investment returns
- There is an insurance premium tax that is applied in some states.
- Variable annuities do undergo mortality and expense charges
- For some policies, you do pay insurance company administrative expenses
- There are annual fund expenses the policy holder must pay
Choosing an Effective Variable Annuity
Variable annuities arrive with several types of charges, such as mortality, administrative, mutual fund fees, and surrender charges. The more benefits you seek from your variable annuity, like a guarantee for minimum income, the larger the fees you must pay. It is important to carefully compare your variable annuity options, reading the fine print regarding the charges and expenses you must incur.
In terms of retirement planning, variable annuities can be an excellent instrument for long-term income into your elderly years.