An income annuity is a financial solution. It allows an individual to pay a lump sum of money in exchange for fixed income paid over a given time period. For investors nearing retirement, the fixed income annuities offer guaranteed income for the remaining lifetime. The upfront payment can vary depending on the annuity policy and the amount of payments required. To buy a policy, you will have to consider several income annuity pros and cons. This post explains important warnings that you know know before buying an annuity.
Lump Sum Payments
The fixed income annuities come with a large lump sum payment. To buy an annuity, you need a liquid cash holding of $5,000 or more. Some fixed income policies start at $10,000 as well. Additionally, you can spend as much as you would like, upwards of $3,000,000 on a policy. Depending on your retirement needs on a monthly, quarterly, semi-annual or annual basis, determine the right upfront payment for you. By paying a larger lump sum payment, you will have the option for higher fixed payments and better terms.
Additionally, the lump sum payment should depend on your age, health and lumpsum payment. Many annuities cost around $100,000, paying out around $5,000 over a period of 12 months. In this case, the payout rate is 5%. However, this fixed income annuity rate should not be confused with an interest rate or best bond rate. While Certificate of Deposits (CDs) are know for a 1% interest rate return, the annuity pays back the principle with earnings such as interest or mortality credits. Certainly, when shopping for income annuities, buy the policy with the best payout rate for your unique life expectancy.
Guaranteed – By Who?
The guaranteed payment is the main attractive point for fixed income annuities. When paying a large upfront payment for guaranteed payments over the course of your lifetime, you should work with an annuity company that will be around. Typically, insurance companies are the primary providers. Do your research on their credit ratings, customer reviews and financial outlook. Although some financial services will offer slightly better terms, you may want to buy an annuity from an established insurance company.
Annuities allow you to defer income to your retirement. If you have any 401K or IRA funds, you will be able to roll them over. These are all efficient for taxes. However, you are still responsible to pay taxes on the income from the annuity. While it may be cheaper than your current tax bracket, most stock investors are familiar with capital gains tax. Above a certain income level, the tax “deferral” might not feel like much of a benefit down the road.
A Fixed Income Annuity Contract
Finally, if you decide to buy an income annuity, you will sign a contract. It will specifically state that you are unable to access the funds. So, if you change your mind, the only way to get your money back is through the annuity payments. In comparison to investment vehicles, investing in aluminum futures, CD’s and other retirement plans, you will have significantly less liquidity. While you can plan carefully, the lack of flexibility in terms should be carefully considered.
These are all important considerations for fixed income annuities. Depending on your current cash holdings, age, health and future needs, an annuity policy could make sense. However, you must clearly understand everything your policy entails and the ability to receive payments over the remainder of your life.
Image from http://www.wealthmanagement.com/retirement-planning/updated-partial-annuitization-rules-how-will-plans-respond