subject: What Should I Ask Before Buying An Annuity? [print this page] Investors have been bombarded over the years with invitations to dinner presentations that promise to share the solution to every retiree's investment problems and concerns. More often than not, the solution usually involves the purchase of an annuity.
This is not to say that annuities do not serve a purpose. They can be a valuable and beneficial investment choice for many reasons. However, they are not a one-size-fits-all type of product, and they should not be advertised as such.
The industry regulators have also recognized the vast amount of misinformation being provided to retirees and pre-retirees. In an effort to protect investors, insurance agents are held to a strict standard of care in ensuring that an annuity product is appropriate for the investor.
Today, we will look at the 12 factors that must be considered in determining the suitability of an annuity. We will also look at some of the reasons these factors are important to understand.
1) Age
Annuities are restrictive products. Once funds are deposited, they are no longer liquid. If we are under the age of 59 , there is a 10% penalty for withdrawing funds.
While we are under 59 , it is important to determine whether there is a possibility that we will need access to the funds in the near future. If so, the funds should not be placed in an annuity.
2) Annual income
Annuities offer tax-deferred growth. Some investors in larger taxable income brackets may benefit from placing disposable income in a tax-deferred vehicle. If annual income is not too high, we should again consider our liquidity needs and whether there may be a need to access to the funds for emergencies or other short term needs.
3) Financial situation and needs
This can also be a reference to a need for liquidity. We do not want to tie up funds that we may need before retirement.
4) Financial experience
Advisors should understand the level of experience investors have. Less experienced investors may need additional guidance in reviewing the pros and cons of each option to determine which route may be best for their present situation.
5) Financial objectives and 6) Intended use of the annuity
Every investment decision should be made with the end goal in mind. Before buying an annuity, it is important to determine what the invested money will be used for and what we plan to accomplish with our decision.
We can ask ourselves several questions. Is the plan to allow the money to grow for a certain amount of time? Do we need to take a regular distribution for a specific period of time, now or in the future?
7) Financial time horizon
We need to know how long we can allow the money to be invested in the annuity before touching it. Some annuities have surrender periods that limit our access in the early years of the contract. As mentioned previously, there is also a penalty for taking money from an annuity before age 59 .
If we decide to annuitize an annuity, it means that we will accept regular payments. This is something that we arrange with the insurance company. We only get one opportunity to make this decision, so we have to be ready to live with that decision. We need to decide if we will take payments for a specific amount of time, or over the remainder of our lives.
8) Existing assets
Is this our complete investment portfolio or only a portion? We may put ourselves in a bind if we invest everything in an annuity and no longer have anything liquid in the event of an emergency.
We might also consider, before annuitizing, whether the payments are designed to supplement other income sources. Will that payment be enough?
9) Liquidity needs and 10) Liquid net worth
We've discussed liquidity several times. It is important to make sure that there is always access to funds somewhere in an emergency.
11) Risk tolerance
Many investors consider annuities because they are not comfortable with risk. Many annuity products do provide principal protection, which is attractive when the market is down. However, variable annuities can be more risky than fixed annuities. Some may consider purchasing equity indexed annuities for additional downside protection.
12) Tax status
As mentioned previously, some investors in larger tax brackets can benefit from the tax deferred growth.
Another tax consideration is whether the money is in a tax-deferred account, such as a retirement account, or in a taxable account. The additional fees charged in annuities may not make them beneficial to every investor, especially in an account that is already tax-deferred.
Any investment requires careful consideration, but annuities can clearly become complicated. Before choosing any annuity product, these 12 factors should be reviewed with the insurance agent to make sure that the product selected is really the most suitable option.
by: Ozeme J Bonnette
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