10 Solid Reasons To Consider An Annuity For Your Retirement Foundation
Need a reason to add an annuity to your retirement portfolio? Here are 10.
Annuities aren’t for everyone; you have seen me write about that often. But when you are putting together your “bedrock” foundation for your retirement plan, they can be essential to that planning. Think of layering; this is about safety and security as your foundation.
At the very bottom of your retirement foundation is Social Security, a fully guaranteed income paid monthly. Next would come your pension (if you earned one), another layer of guaranteed income. On top of that should be your annuity, payment payable for life and available for use by your spouse should you die prematurely.
Annuities seem to draw lots of controversies, both good and bad. Even President Obama suggested that an allowance be considered for your retirement planning; he isn’t the first to say that. Many years ago, Benjamin Franklin offered the same advice: “an annuity for living in your elder years is a wise choice.” He thought so because he bought two of them, one naming the city of Philadelphia as the beneficiary that continued to receive benefits from Ben’s annuity until 1977.
Here are ten solid reasons to consider an annuity as part of your retirement foundation.
1: Outsource: When you buy an annuity, you outsource financial management responsibility. The insurance company (for the benefit of getting to hold your money) promises to live up to their contractually guaranteed benefits. If they guarantee a specific interest rate, they will pay for it. If they guarantee income for a particular period, they will deliver it. They assume the responsibility of managing your funds in return for allowing them to hold your money. Insurance companies are professionally managed and highly regulated; let them keep your money and enjoy the annuity benefits.
2: Two types of annuities: Be Aware: Ever buy an apple? Think about your choices at the market for apples, Delicious, Goldens, Jonathans, etc., and the list goes on. Fortunately, with annuities, you only have two options, those sold by insurance companies and those sold by security-licensed professionals. The annuity sold by security professionals is called a variable annuity, and their sale is regulated by the securities industry. A variable annuity is a security wrapped in an annuity holder. Your funds are invested in a mutual fund type account (separate accounts). Your funds can grow and shrink based on fund investment performance. Variable annuities have a myriad of fees, fees for asset management, fees for the annuity wrapper, and fees for additional riders attached to the annuity. The second type of annuity is those sold via insurance professionals. This kind of annuity has no fees and will pay a set rate of return. Fixed annuities are not regulated by the security industry but by your state of residence’s Department of Insurance. Be careful about which type of annuity you choose, and always ask about fees. If the broker says the annuity has fees, it is likely a variable annuity; ask the broker how the benefit you are being charged for can help your retirement plan.
A good source for more information regarding variable annuities can be found at this link: http://www.finra.org/investors/annuities
3: Probate avoidance: According to AARP, the cost of probate can be higher than the expense of an average car. Many assets naturally avoid probate; an annuity is one as long as you declare a named beneficiary. It is a simple process; the annuity owner designates who will receive the grant’s proceeds (or remaining value) if the annuitant should die. Probate can be both costly in time delay as well as financially expensive. Probate costs can be high; consider executor, attorney, and court fees. They all add up. Suppose you name a beneficiary to receive the proceeds of your annuity. In that case, the funds (in most situations) are available in about ten days and are paid free of fees and expenses. How about Natalie Wood, the beautiful film star who tragically died at age 44? After she died, it took 18 years for her estate to pass through probate, which is public information. Anyone could have requested to look at her probate estate and would have been granted permission.
NOLO has more information about probate, fees, and expenses; here is the link: http://www.nolo.com/legal-encyclopedia/why-avoid-probate-29861.html
4: Tax deferral and triple compounding: Our old friend Albert Einstein once said the theory of compound interest is the most potent formula on earth. He says, “Compound interest is the Eighth Wonder of the World.” Those are powerful quotes from a brilliant man, but what does that mean? Let’s begin with compound interest and its definition. Compound interest is the interest added to a principal on deposit, interest paid on the original warranty, plus interest on the accrued interest. Now add tax deferral; if earned interest is not taxed but instead sent ahead to some future date, then the interest earned would be paid on the total earnings, interest on the deposit, interest on the accrued interest, and interest on the taxes not paid but deferred. That is the actual Eighth Wonder of the World.
5: Estate Planning: Increasingly, annuities are used for advanced (and simple) estate planning. They can provide income in a trust for a particular need, such as the funding of a life insurance policy, and they can be used as income for an heir. They can be used as a “longevity tool” to ensure heirs have income later in life. They can be used as a foundational asset in a trust to help offset a spendthrift issue by adding stability. Annuities are tax-deferred, allowing the beneficiary to continue with the tax deferral on an inheritance of the grant for a fixed period which can allow for better tax management. Annuities can make excellent charitable gifts to ensure income for a specific skill that requires long-term funding, such as a homeless shelter. Occasionally and only under the direction of an attorney, annuities can be used to help offset Nursing Home Expenses.
Here is a link for more information about nursing home expenses and options: www.elderlawanswers.com
6: Safety: Annuities issued by insurance companies are safe. Nothing is for sure in this world, and the word guaranteed is used as often as anything. But annuities are safe, and they are….guaranteed. Annuities issued by insurance companies are some of the most highly regulated products in the financial world. Not only does each state insurance department have authority over any insurance company operating in the state, but they also have the right to examine the books at any time. Annuity companies must also keep enough money in reserves to cover 100% of the outstanding contractual promises.
7: Social Security Taxation Relief: As mentioned above, annuities are allowed to tax defer interest earned until a later date chosen by the annuitant. Because of how our taxation system works about earned income in the calculation of social security benefits, annuities can help reduce taxation on social security: Yes, that is true; tax on social security does have limits. Tax on social security depends on your overall income; income from pensions and investments counts towards the calculation.
According to AARP Social Security Resources. If you and your spouse file a joint return with a combined income below $32,000, your benefits are not taxable. For income between $32,000 and $44,000, up to 50 percent may be taxable, and up to 85 percent if combined income is more than $44,000.Feb 10, 2014. Here is the AARP link: http://www.aarp.org/work/social-security/info-2014/social-security-benefit-taxes.html
Here is how an annuity can assist in reducing taxation on social security. The interest earned is included as ordinary income if a person deposits a bank account. Let’s assume a stake in a bank CD makes 3%, which would become $3,000 in taxable income whether the person uses the funds. If they accumulate, the revenues and the deposit account are passive funds for future use. But, if the same deposit is in an annuity and the earned interest is deferred, the accumulated interest is not included in the calculation of ordinary annual income. (When considering taxation issues, always consult your tax professional for information regarding your particular situation)
8: 1035 Tax-Free Exchange: Consider the situation where you have purchased a US Treasury; as long as you own that asset, you are locked into it. You are not allowed to make any changes to it without selling it. There are no rules in place to take advantage of future circumstances. The same goes for other investments such as bonds and stocks. That rule does not include annuities. The IRA allows you to keep your tax deferral intact and move from company to company, annuity contract to annuity contract, all without exposure to taxation from your tax-deferred earnings. This provides the annuitant control over increasing future benefits and increasing future interest options. The 1035 Exchange gives you a perfect tool to manage your annuity retirement account. Even though the IRS allows the use of this exchange, rules still need to be followed.
Here is the IRS link for more info: http://www.irs.gov/pub/irs-drop/n-03-51.pdf
9: No Sales or Acquisition Expense: Fixed Annuities sold through insurance professionals do not charge the annuity buyer any acquisition fee. The cost of acquiring new annuity owners is built into the annuity itself; whatever interest you are guaranteed is precisely what you will earn.
10: Income: Income may be the best benefit for most of us. Immediate income annuities provide a primary income stream for almost any possible period, even a lifetime. The insurance company guarantees the income, which can be paid monthly via direct deposit to your bank account. The guaranteed income payment cannot be affected by market volatility, helping shield your retirement income from market risk. Also, most annuity products offer an income rider; the rider allows you to know in advance exactly how much payment you will have available in almost any future period.
You can also include your spouse in any income plans; income can be guaranteed for life. If the annuitant (s) lives beyond their life expectancy, the insurance company will continue the annuity benefits. If the opposite happens and a premature death occurs, the named beneficiary will inherit any unused gift. A solid resource is the Securities and Exchange Commission; here is a link to their annuity page: http://www.sec.gov/answers/annuity.htm.
Annuities are terrific products when used to accomplish desired benefits; remember, an annuity is a longer-term commitment; make sure the benefits they provide match your desired goals. Always seek licensed, experienced professionals to help you understand the investment side of annuities and any possible tax situation.