Annuities – Better than you think

“Our doubts are traitors and make us lose the good we oft might win, by fearing to attempt.” – William Shakespeare

Creating a sense of certainty that you can achieve whatever you desire is powerful and life-changing. However, if you allow fear and doubt to take over, they become an enemy that destroys all possibilities. They control you, make you settle for less and underachieve. On the other hand, when you courageously conquer these enemies to success, you open the doors to high achievement with certainty and confidence.

As it relates to retirement, there are a number of risks that can create fear and stress as we transition to this phase in our lives.  Exploring options to address them before getting there will give you the certainty you’ve made the best decisions for your family and future.


Key Takeaways

  • Annuities can be an excellent addition to your retirement toolkit for income and protection.
  • There are two main types of annuities: deferred and immediate. Each type that can either be fixed or variable, which relates to the expected return.
  • Everyone’s needs and timing are different. Choose carefully and don’t do it alone.
  • Make sure your advisor or agent understands your complete financial picture and goals before signing an annuity contract—and that ALL fees and lockup periods are carefully explained.

In this uncertain investment climate, people ask me all the time if they should be looking into annuities to lock in some predictable income and minimize risk. They may have heard about annuities from a golfing buddy or from a salesperson who contacted them out of the blue.

Skeptics say annuities are bad investments, but that often happens when annuities are used without knowing your particular financial situation, risk tolerance, and time horizon. In reality, annuities aren’t investments at all.  They are contracts with life insurance companies that address the policy holder’s financial goals: Principal protection, lifetime income, legacy planning, or long-term care needs.

The idea is to have a reliable and stable source of income in your portfolio without much risk involved. That’s where annuities come in. When used correctly, annuities CAN be a very valuable part of your retirement and wealth building equation–and YES, they can provide you with steady income, no matter how volatile the stock and bond markets are.

Chances are, you already own annuities. Social Security is an annuity. If you have a college savings plan with a low-risk “principal protection” option, that’s an annuity, too. Win the lottery and take in installments rather than a lump sum? That’s an annuity, too.


Just remember that not all annuities are alike.

There are myriad annuities to consider, but most fall into one of two categories: Immediate or Deferred. And within those two categories you can either take them as Fixed or Variable.


  1. Immediate: Immediate annuities are just like what they sound. They can provide you with income within the first year that you sign the contract. However, most immediate annuities are “annuitized.” That means that in exchange for receiving regular, guaranteed income, you no longer have access to the money.


  1. Deferred: Deferred annuities are based on the concept of delayed gratification. You have to wait a few years before you start taking distributions, but your money starts growing from Day One. Most deferred annuities allow you to lock in a guaranteed growth rate. Some offer you guaranteed income without requiring you to annuitize the lump sum. The interest grows tax-deferred within the annuity until it’s time to be taken as income.


  1. Fixed: Fixed annuities come in two sub-types: (a) fixed and (b) indexed. Fixed annuities offer an interest rate that is set (i.e. fixed) at the beginning for the life of the policy. Index annuities offer you partial participation in the stock market gains during good years, but they ensure that you’ll suffer no loss of principal loss. These are insurance products (not securities products) that protect your principal from loss while providing some growth. You can’t expect your account to go up as fast as the overall market does during good year, but you’ve got pretty good downside protection. What’s not to like?


  1. Variable: Variable annuities are investments sold by stockbrokers and financial professionals who are licensed to sell securities products. Variable annuities are designed to provide market-like performance coupled with the guarantees you can get with insurance products.


Fees, lockups and returns


Fees:  As with securities, there are fees involved when investing in variable annuities. Make sure you are aware of the fees before investing and if those fees warrant the income “guarantees” you are receiving. Because of the market risk they’re taking, life insurance companies charge a fee for their guarantee known as a Mortality and Expense (M&E) fee. There can also be admin expenses, investment expenses, rider fees and surrender charges. All in these fees could range from 2 to 3 percent.


Money locked up:  Yes, there can be some years that your money would be subject to “surrender charges” if you need to access it prematurely, although many contracts allow you to access up to 10% of your account without paying surrender charges.

This is where annuities sometimes get a bad rap. But, before you roll your eyes, just consider how much peace of mind an annuity can provide you—especially during stressful times like these–and the fees and restrictions don’t seem that burdensome.



We tend to measure financial products in terms of the returns they generate for us. However, an annuity is more of a hedging tool provided by an insurance company than a pure investment. It protects you against market risk, interest rate risk and longevity.  Why is longevity a risk? Because many seniors outlive their savings. Some annuities provide guaranteed payments for life meaning your income stream will literally not run out until you do. The pros call this “retirement alpha” Which represents the use of other people’s money that the insurance company pools together to mitigate individual risk.


What to look in a financial advisor or insurance agent

Most importantly, he or she should understand how annuities fit into the overall strategy for you and your spouse. Are you looking for protected growth or income?  What guaranteed income do you anticipate during retirement?  How much would you want?  Covering basic expenses with guaranteed income with a lower asset amount can free up the use of other money to invest and exceed inflation which is another big risk in retirement.  What retirement risks are you most concerned with and how do we take them off the table? A good advisor or agent can walk you throw each question and scenario to help your arrive at the best solution.


How do annuities fit into an overall portfolio/retirement plan?

I see annuities as a replacement for your bond portfolio, with the ability create low-risk income for you in retirement. Annuities are generally more efficient than bonds when it comes to generating steady income that you cannot outlive.


Tax implications of annuities

The withdrawals coming from an annuity represent a portion of the principal and interest. If used in a qualified plan, the annuity would follow those rules around taxation (i.e. a Roth is not taxed, but a non-Roth is taxable). If used in a taxable account, the interest portion would be considered taxable income. Technically the mortality credits you continue to receive if you live long are also taxable as they are essentially someone else’s money.  Essentially your principal runs out, but you benefit from those who died early.


How do I invest in annuities?

Annuities are not sold on an exchange. You need to go through a licensed broker or agent. They are typically sold as lump sum investments, but in some cases, you can contribute monthly/annually like you do with your 401(k) or Social Security.


Real world example

A 50 year-old couple (Let’s call them Sam and Samantha) was primarily invested in stocks. But as they got closer to retirement, they wanted to protect more of their assets from loss and allocate a portion for a future income stream.  After exploring the options with Sam and Samantha, we determined that by adding a fixed indexed annuity (FIA) to their portfolio they could increase their returns and income more efficiently than through a bond portfolio–while reducing the overall risk of their investments.

They took $200,000 out of their bond portfolio and invested it in a FIA so none of the $200,000 could be lost. They chose to have their FIA tied to a market index, so they would participate in a portion of the market’s upside, but not suffer the downside. Even better, the FIA would allow their money to grow tax-free until age 62.

After age 62, Sam and Samantha could take out $20,000 a year from the FIA, while the remaining principal stayed protected from loss.  The income could continue to rise each year depending on the performance of the index they chose.  This is a great way to address inflation risk.  By age 75, they were projected to be able to take out $42,000 year for the remainder of their lives with the possibility to increase the annual income depending on market returns. If they lived to 80, they would have taken out nearly $600,000 with no risk of loss and the income stream would continue until they pass with no risk of running out.  This is the power of a paycheck for life.

Based on conservative projections, the bond portfolio would have had to return 7% a year to give them the same amount of money as the FIA provided. Again, if you really need to access your money before age 62, you can take out up to 10% of the account balance a year without penalty.



Since there’s no risk of market loss, annuities sound like almost too good to be true. To cover at least basic expenses in retirement lifetime annuities are a tremendous financial tool.  You just need to make sure you’re working with highly reputable carrier with a high credit rating. If the insurance company goes under, you could lose all of your investment. That’s the main risk.