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Annuities for Retirement

Why You Need An Annuity

1) Annuities Provide Tax Savings

An annuity has numerous advantages. The first advantage is tax deferral on interest and capital gains which allows the principal to compound tax free and  can save you a lot of money.  There is no IRS reporting requirement until you actually make a withdrawal from the account. Since the contribution was made with after tax dollars, you only owe taxes on the gain not on the initial contribution. The annuity company will help you determine what portion of your receipts are gains and what portion is principal. But just like an IRA an annuity can be subject to the 10% early withdrawal penalty.

Annuity for Retirement2) Annuities have No Limit

Secondly, unlike an IRA there is no limit to the amount of money you can invest in a “non-qualified annuity” (qualified annuities are only available through some employers as part of the retirement plan). This gives you the chance to save as much as you choose for your retirement. The disadvantage is that there is no limit and so there is no goal to shoot for each year and thus it is easier to put off investing for a later time. But because there is no limit, annuities can be of great help for people who are nearing retirement and need to catch up on their retirement investments.

3) Annuities Provide Choice

The third reason for an annuity is the choice over having the money sent out to you in large amounts, or in small amounts for a long period of time. This provides flexibility in how to pay for your retirement. Unlike other methods you can choose what is best for you. When you decide to plan for your retirement by paying into an annuity, you open up the option of numerous pay out methods.

Distribution Methods of Annuities

You need to decide on the best way to receive your annuity distribution. With the standard income distribution, you will receive the same amount of money each time (monthly or yearly), regardless of inflation. This might get tough if inflation is high, but you will start out with a larger payment so it may be beneficial if inflation is low.

The second method is inflation linked which will tend to be lower at the beginning but will grow to match inflation as time goes by. This ensures that your purchasing power is maintaned as the cost of living increases.

Income Guaranteed for a Period

Distribution options include the income guaranteed period. This type of pay out involves receiving a certain amount of money a year (can be paid monthly) for a fixed period of time. If you die before the period you had agreed on is over, your beneficiary will continue to receive the money left. One disadvantage is that any income received by a survivor is taxed as ordinary income rather than allowing a “step-up” in the value based on the value at the date of death as some other investments provide. For this reason a combination of lifetime payments and a life insurance policy may be a better Estate Planning choice.

Lifetime Payments

The second type is the lifetime payments. This is a payment that you will receive for the rest of your life no matter how long you live. It does not include survivor benefits, and the amount you receive depends on your initial investment.

Joint and Survivor Payments

The third type of annuity distribution is the joint and survivor annuity. If one partner passes away the survivor continues to receive the payment money for their lifetime. This is a popular form of annuity distribution for couples who are married and living together during retirement. The disadvantage is that the monthly payments are smaller than they would be under a lifetime payments schedule. It might be beneficial to choose lifetime payments on the younger or healthier partner and combine it with a life insurance policy in case the other partner survives.

Before you invest in an annuity, explore all its options and ensure that you get the best type of payout. This will allow you to enjoy your annuity even after you have retired, and prevent the need to swap for a better option.

Warning: Swapping Annuities Can Be Costly

Once you have paid for your annuity, it’s too late to ensure that you have the best type of annuity.  Do not rely entirely on what the agent says, it is very important to ensure that you have read all the conditions and understood them before signing the contract or committing any money. Because, if you decide to change your annuity type, it is important to weigh your options because there is often a 7% surrender fee, to close an annuity account (although may be phased out if you hold the annuity long enough). To make matters worse, the surrender charge is based on the entire value not just gains. So if you put $10,000 into an annuity and turn around the next day and try to take it out you will only get $9,300 back. The advantage is that will not suffer a tax penalty for early withdrawal (as with an IRA), but you could still lose a lot of money so be sure to choose the right annuity at the beginning.


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