I’ve said many times before that annuities are not for everyone. But for many people they can be fantastic retirement planning tools.
But there are a lot of different types of annuities available on the market.
Perhaps the biggest broad distinction in the annuity camp is between “fixed” annuities and “variable” annuities. The big difference here is that “fixed” annuities do not have market risk, whereas “variable” annuities can decline in value if the sub-account investments do poorly.
But within these 2 camps of annuities, there are yet still more distinctions. It can be confusing.
So today I’m going to focus on the “fixed” annuity side and tell you about the 3 best fixed annuities for retirement planning. So here we go.
What’s Important For Your Retirement Plan?
The first thing to recognize is that everyone’s retirement situation will be different. Understanding this is the first step. Different people have different needs.
Some retirees may have huge guaranteed sources of income from a combination of pensions and Social Security.
Other retirees may not have much in guaranteed income sources since all they have is Social Security.
You can see how these 2 different groups will have very different needs for their retirement planning. And if they have different needs, that means there is a good chance that the same investments and financial products will not be as beneficial to both of them.
Let’s take this one step further: One type of fixed annuity that would work well in their retirement plan would not make as much sense in someone else’s retirement plan.
So we have to keep this in mind as we discuss these top 3 best fixed annuities for retirement planning. The “best” one for a person may not be the “best” for another person. Having said that, let’s look at the first one.
#1: The Immediate Annuity
The first annuity is commonly referred to as a single premium immediate annuity. You pay a single premium into it, and it immediately begins paying you an income.
Pretty simple, huh? An 8-year old could understand this one. And it is perhaps the easiest to understand annuity structure out there, in a world where there is much complexity with other annuities.
The immediate annuity can be set up to pay for a specific time period, say 10 years. Or you can set it up to pay for your lifetime, however long that may be. And we all hope it will be a long and healthy one.
These annuities can also be set up to pay for the rest of your life AND your spouse’s life. So if you die you aren’t leaving your spouse with less income because it keeps paying until they go. How’s that for a Valentine Day’s gift?
The close cousin to the Immediate Annuity is called the Deferred Income Annuity. It works very much like an immediate annuity except that it defers the income for at least a year. You put money into the Deferred Income Annuity and wait a year or more, then income begins. Also, a very simple concept.
When Should An Immediate Annuity Be Used?
These types of annuities are generally good for a retired person or couple that need extra guaranteed income in retirement. If they have low guaranteed income, perhaps they have no pension and are only receiving meager Social Security payments, then these types of annuities may serve a good role in their retirement plan.
Also, for retirees that may have decent amounts of guaranteed income, but they still need a little more income. Perhaps they have a high cost of living and need more income sources. These annuities may serve a good role in this circumstance as well.
#2: CD-Like Annuity
The second popular annuity acts very much like a CD at the bank. It simply guarantees a certain interest rate on your money for a specific time period.
They also go by the name of Multi-Year Guaranteed Annuity. For a number of years (multi) they will guarantee an interest rate.
Often times the rate they guarantee will be higher than what a CD with the same rate-lock period will guarantee.
And even if you are using non-qualified money (i.e. money not in your IRA), the interest income will be tax deferred until you pull it out of the annuity. This helps grow your money faster.
When Should A CD-Like Annuity Be Used?
These types of annuities are often best used when you want to get a guaranteed return on your money taking no market risk. They give you predictability. You will know to the penny how much your money will grow.
Since they often times offer slightly higher rates than a CD of equivalent rate-lock period, they may be a way for you to get a little more on your investment.
And since they can’t go down in value due to the market, they are good for asset preservation which is so important for retirees.
#3: Fixed Index Annuity
The third annuity is the Fixed Index Annuity. This is another annuity that may be good in many situations for retirement planning.
Since they can’t go down in value if the market declines, they offer asset protection which is important for most retirees.
They have the potential to outperform other safe investments like CD’s or even Mulit-Year Guaranteed Annuities. But their returns are based on how well the index they track performs. And they don’t get full upside of what the index does.
Expect conservative growth from these products. Don’t buy into the dreams that some people will try to use to sell these products. You won’t get stock market like returns.
For retirees this is often a very good value proposition for a portion of their portfolio. Yes, it will have more conservative growth. But the investment is protected against loss. And this is very important for retirees that typically must make withdrawals from their investments to supplement their income.
You don’t want to withdrawal from an investment that is depressed in value in the stock market as that can really hurt a portfolio. With the Fixed Index Annuity you don’t have to worry about that.
Another big benefit Fixed Index Annuities provide is income riders. You can often choose to add (for a fee) an income rider to a Fixed Index Annuity.
This gives you income guarantees while maintaining flexibility to have access to your lump sum account if your plans change in the future.
When Should A Fixed Index Annuity Be Used?
These types of annuities are best used when you need protection of your assets and want to get a little more growth potential than what other safe, conservative investments offer.
They work well for retirees as a source of income to make withdrawals from (as long as you don’t withdraw too much to have to pay surrender charges) because you are withdrawing from an account that will not ever be depressed in value from a market correction.
They can also be used effectively to plan for income at some point in the future by using income riders. If you are 55 and you know you’ll need some extra income when you retire in 10 years at age 65, you can use an income rider attached to the Fixed Index Annuity to guarantee what that income will be 10 years from now.
I hope that helps, as there is much confusion on the topic of how to use annuities effectively in a retirement plan.
If there is a need and if they are used properly, they may help improve a retirement plan.
And this ultimately comes back to understanding what your needs are, what your goals are, and then finding the right strategy to accomplish those goals.
Once you know what your goals are, it is much easier to find the right tools (i.e. financial products) to help accomplish those goals.