Annuities are also called personal pensions because they provide a guaranteed income in retirement based on contributions that you make to your annuity fund prior to retirement. Annuities can be established through a lump sum payment to an insurance company or through a series of installments that will then be paid back in regular monthly payments, either for a set period of time (such as 10 or 20 years) or for the lifetime of the annuitant. Annuities typically become more popular during tumultuous economic times, but there are concerns about their limitations. The more you understand about annuities, the better you'll be able to decide if they fit your investment goals.
Pro: Secure Investment
As an article on the financial website Main Street suggests, "The main advantage to having an annuity is that can provide income for as long as you live. A shaky market means that 401(k) and IRA investors are rightfully nervous that market losses could mean they'll outlive their retirement savings. With the right kind of annuity, that is avoidable." This is particularly true for fixed annuities, as opposed to variable annuities. Fixed annuities, as the name implies, result in set payout amounts based on the plan you establish when you purchase the annuity from the insurance company.
Con: Limited Growth
Unlike money invested in the stock market, fixed annuities cannot grow during robust economic periods. As the New Retirement website notes, "In return for the retirement income certainty provided by fixed annuities or equity-indexed annuities you forgo the opportunity to make bigger returns by investing your money in assets that fluctuate in value, like stocks." Of course, a fixed annuity isn't subject to the risk of loss that a stock market downturn can produce. Variable annuities also can be purchased, which are subject to the success of the investment made by the insurance company (often annuities are invested in mutual funds or the like).
Pro: Survivor Benefits
To make sure that your spouse continues to benefit from your annuity investments after you die, you can set up a joint annuity that will continue to pay out as long as your spouse lives. There are numerous options and features of annuities, so you would be wise to go over all parts of the plan with a trusted financial adviser before committing to any investment, whether it is an annuity, IRA, stocks, bonds, among others.
Con: Limited Payout
This is a relative issue, because if you purchase a large annuity while you are working, you can guarantee a sizable income when the annuity is paid back to you. However, if you are only able to make a relatively small annuity purchase, the monthly installments you receive also will be small. Similarly, a variable annuity that is not invested successfully by the insurance company can also produce a smaller than expected payoff.
Pro: Flexibility
Unlike many pension plans, annuities don't have a set maximum payout figure, other than that established by you when you purchase one. A 401k, for example, restricts the amount of your paycheck and company match that can be invested each month. Your annuity can be as big or small as you are able or willing to make it. You also have the flexibility of making it a payout for life or for a period of years. A limited time period may result in larger payouts, depending on your age when you plan to start receiving the payouts, but how you design your annuity plan is up to you and the insurance company.
Con: No Short-term Advantage
In its guide to annuities, the Securities and Exchange Commission points out that, "Variable annuities are designed to be long-term investments, to meet retirement and other long-range goals. Variable annuities are not suitable for meeting short-term goals because substantial taxes and insurance company charges may apply if you withdraw your money early." You pay no taxes on income generated by annuities until you start to receive payments in retirement.
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