What Is An Annuity?
An annuity can be a long-term financial contract that will provide you with a stream payment later in return for your investment now. Annuities are a great way to help you save money on your taxes, retirement income, and estate planning.
An annuity can be purchased for these main three reasons:
- Retirement income: To live comfortably in retirement, you might need more than Social Security. An annuity is a steady income source that can help you not outlive your savings.
- Estate planning: Annuities provide income to your beneficiaries in the event you are unable to work out a will.
- Tax deferral: Until you withdraw the money, you don’t have to pay taxes on any investment gains in annuities.
How Much Does a $100,000 Annuity Pay Per Month?
Your annuity payment amount will depend on several factors, including how much you invest and how long you wait before receiving payments.
The longer you wait before receiving payments, the greater your potential return on your investment.
The general rule is that the checks you receive will be smaller the longer you wait to receive them.
Inflation can make what appears to be a large sum of money seem small in the future. A $1,000 monthly payout will likely go further today than it will in 15 years.
How Do Annuities Work?
Annuities can be complicated, but this overview will help you to understand some of the characteristics.
The Annuity Lifecycle
There are typically two stages to annuity investment.
- Accumulation. Contribution. The type of annuity that you purchase will determine how the money is invested and when you can start receiving payments. This phase can be short-term or long-term.
- Annuitization. When you start receiving checks, the payout phase begins. A lump-sum payment is possible, but many people prefer a monthly payment.
Types Of Annuities
There are many types of annuities. These are the most common.
- Instant annuity: An immediate annuity that starts paying right away
- A deferred annuity is an annuity that pays out later. This allows you to receive higher payouts because you have more time to invest your capital gains.
- Fixed annuity: This is a type of annuity that you pay a premium and which is invested at a fixed interest. The guaranteed rate of return is the basis for investment growth.
- Variable annuity (or variable annuity) An annuity allows you to decide where your premium should be invested, such as in bond funds or mutual funds. The annuity provider may offer a guaranteed minimum return or cap the maximum growth, depending on their terms. This means that your investment returns and payments might never fall below a specific level or go above a particular level. Higher earnings could mean higher risk, but you may also have greater earnings.
- An equity-indexed annuity is one that tracks the stock index to some extent, such as the S&P 500. You get guaranteed minimum payments, although they may be capped. Higher earnings could mean higher risk, but you also have greater potential for earning.
- Riders: An annuity can be customized by buying riders. Riders can be added as an optional feature. They can vary from issuer to issuer. Living benefits are where you receive guaranteed increases in your payouts over a set time period. Death benefits are where the annuity pays your funeral expenses or pays a beneficiary.
Annuities are tax-deferred investments. This means that you only pay tax when you withdraw money from the account.
An annuity purchased with pre-tax dollars such as through your 401k or IRA will be subject to regular income taxes. The payments you receive from the annuity, later on, are not subject to capital gains tax which are often lower. Qualified annuities are those that are funded with pretax money.
An annuity purchased through a Roth IRA, or Roth 401(k) may be exempt from tax.
When you withdraw money from an annuity, it is generally the earnings or gains portion of your account that is taxed if you bought an annuity using the money you have already paid taxes.
Can You Lose Your Money In An Annuity?
Yes. There are risks with all financial planning investments. Two main risks for annuities are:
- Market risk is when your investments in annuity lose their value. This leaves you with less money and lowers future payments.
- If the issuer isn’t able to pay your annuity, it could be called issuer risk.
Is An Annuity a Wise Investment?
If you have a significant fixed expense such as a mortgage or worry about running out, guaranteed payments may be appealing.
- If you have already contributed to other tax-deferred accounts like IRAs and 401(k), annuities can help you get into a tax-deferred investment.
- You receive a fixed payment that you can count upon.
- Your annuity can be customized. An annuity can be set up to pay until your death, or until your spouse dies.
- An annuity can be purchased with a death benefit. This allows you to name beneficiaries who will receive any money that is not paid.
- Over time, inflation can reduce the purchasing power of a fixed payment amount.
- Annuity investments may not be your best option.
- If the investment returns exceed the cap, the insurer may offer a set return or capped return.
- These fees are more expensive than IRA fees, and you may be subject to surrender charges if your policy is terminated.
Be aware of the fees often associated with annuities.
- Surrender charges. Surrender charges are charged if you withdraw money from your annuity prior to the stipulated date. Surrender fees are usually applicable for many years after annuity purchase.
- Fees for expense and mortality risk. This usually amounts to 1.25% of your account each year. It compensates the annuity seller for the risk it takes under the contract. Part of it might also pay a commission to the person who sold the annuity.
- Administrative fees. Administrative fees may be applicable to record-keeping and other administrative costs.
- Subsidiary fund expenses. You usually also have to pay fees and expenses for the mutual funds in which your account is invested.
- Additional features. Additional fees may be charged for certain features such as long-term care insurance or guaranteed minimum income benefits. There may be additional fees, such as initial sales loads. These are fees you pay when you purchase the product. You also might have to pay fees for transferring money from one investment option or fees for other activities.
- Tax penalties. You may be subject to a 10% tax penalty if you withdraw money from an annuity before the age of 59 1/2.
Annuities vs. IRAs
Annuities can be one option for retirement planning funding. Annuities have many advantages and disadvantages, just like other popular vehicles such as IRAs.
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Any opinions are those of All Seasons Wealth are not necessarily those of RJFS or Raymond James. Investing involves risk and you may incur a profit or loss regardless of the strategy selected. Every investor’s situation is unique and you should consider your investment goals, risk tolerance, and time horizon before making any investment. Past performance may not be indicative of future results.
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