Pros and Cons of Annuities Explained

Finding ways to get annuities explained can be an exercise in frustration. It seems that those people who do understand how annuities work can’t explain them in simple English, while those who aren’t sure seem to get even the basics confused.

There are several annuity options investors can consider and they can become a valuable part of any retirement savings portfolio if they are done correctly. Unfortunately, they can also have some disadvantages if you’re not aware of the types of annuities you’re dealing with.

Time to explain annuities in a simple way.  Below are some basic pros and cons of an annuity explained:

Pros of Annuities

1) Tax Advantages – Annuities can offer investors some good tax advantages. This is because the tax is deferred until after you’ve started to withdraw your funds, which can be ideal for many people who anticipate that they’ll be in a lower tax bracket by the time they retire.

2) Guaranteed Return – If you’ve chosen to use fixed annuities, you can receive a guaranteed rate of return on the money you invested. In most cases, the rate of return can often be lower than other comparable types of investments, such as the stock market or mutual funds, but the risk to your investment capital is also inherently lower.

Fixed & Indexed Annuities Explained: guaranteed percentage rate and fixed payments given out at the maturation of the annuity. Lower-risk but low-return.  Often a preferred option because of this.  An annuity that rises and falls in relation to an equity or stock index like the S&P 500, Nasdaq or any other index you can think of.

Variable Annuities Explained: variable annuities can also sometimes offer a guaranteed rate of return, but you could find this option will also include investments that are based on stocks or mutual funds. These additions can improve the rate of return you thought you were guaranteed if the markets rise, but if the markets fall, you don’t receive any less than the guaranteed floor amount.

3) No Maximum Investment Amount – Another good advantage of annuities is that you aren’t restricted by a maximum investment amount as you are with 401k or IRA accounts. This can be ideal for any investor wanting a tax deferred investment in which to invest as much money as possible.

Cons of Annuities

While there are some very good advantages to investing in annuities, there are few disadvantages you should consider before you jump in at the deep end.

1) Low Liquidity – Annuities are not a very liquid type of investment. If you can foresee that you may need to use the money you’re investing for other purposes in the future, or if you want to use your investment income for other things, then annuities might not be right for you.

There are hefty penalty fees to consider if you withdraw your money early that can erode the capital amount you have invested. While it’s possible to sell your annuities on a secondary market, you’re often paid less than you could have received if you’d let your investment mature.

2) Higher Fees – You might also find that the fees associated with annuities can be higher than those charged on other types of retirement savings plans and investment options. If you’re trying to maximize your retirement savings, then a typical investor could benefit from increasing a 401K or IRA plan first until it’s maxed and then think about adding an annuity at a later point.

Hopefully this quick guide to the pros and cons of annuities has made your investing decision easier to make.

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