Annuities can be income-generating vehicles
Annuities are often either loved or hated, and they certainly aren’t for everyone, but they are excellent income-generating vehicles. They are the only thing today that can guarantee lifetime income. Using an annuity can be a good way to fill an income gap, supplement your Social Security benefit, and create an income from a lump-sum pension distribution. First, you have to understand what they are, what they can do, and which one might be the right one for you.
THE TWO GROUPS OF ANNUITIES: IMMEDIATE AND DEFERRED
Many people are afraid of investing in annuities because of an old stigma surrounding early annuity products. There is the fear that if you pass away, all the money left in the annuity will go to the insurance company. This is NOT the case. Today’s annuities have death benefits and income riders that give you more flexibility and control over your money. You can also find ways to get an immediate income without losing access to your principal.
The most common types of annuities fall under one of two categories: deferred or immediate.
With a deferred annuity, your money is invested for a set period of time before you begin taking your income. This allows your money to grow (or roll up) much like your Social Security benefit.
With an immediate annuity, the income payout can start as soon as the first investment is made, in as little as one month or 30 days.
In the old days, the only way to guarantee a lifetime monthly income from your annuity was to annuitize. In simple terms, to annuitize means to convert a lump sum amount of money into an income stream. In exchange for this income stream, you had to give up control of your principal. There are some immediate annuities today that still operate this way, but the ones we are talking about here don’t require annuitization.
Being educated and informed about the different types of annuities out there will help you to ask the right questions when meeting with your professional. As with all investments, one size does not fit all.
An immediate annuity is simply a contract between you and an insurance company. It converts a lump sum of money into an income you can start drawing on right away for an agreed upon time period. As the name suggests, the income starts right away, as early as one month after you purchase the annuity. The duration of the income could be five years, or it could be for the remainder of your lifetime, you get to choose.
This can be a great tool to use if you have an income gap of a few years while waiting for your Social Security benefit to mature. For example, if you want to retire at age 64 and you need 6 years of income while your Social Security benefit grows, you can use an immediate income annuity with an income rider that can be turned on right away to fill your income gap. Once you turn age 70 and your Social Security benefit starts, you can then turn off the income stream.
This type of annuity gives you the option of waiting several years before turning on the income stream, hence the term “deferred” as opposed to the term “immediate.” It would be a good choice for someone who does not need their income right away but wants to set aside this money someplace where it can grow while being protected.
With a variable annuity, your principal is not guaranteed, and you can lose money with market fluctuations. Variable annuities vary with the market because they earn returns based on market investments such as mutual funds. This type of annuity can also be converted to an income stream using an income rider, but it is really more useful as an accumulation tool that bets on an improving market.
If you purchase an income rider, the account value created by the income rider may come with some guarantees, but the value of your actual contract can still fall. If you surrender the annuity, the insurance company will pay you the market value of the asset, regardless of whether it matches, exceeds, or falls short of the value at which you bought the contract. If its value has dropped significantly, you may be better off taking the income rider without surrendering your contract.
When would you use a variable annuity?
A 40-year-old couple, for example, will probably want to structure more for growth and take on more risk than someone in their 70s. The 40-year-old couple may select a variable annuity with an income rider that kicks in when they plan to retire. If it rises with the market or outperforms it, the value of their investment has grown. If the market loses ground over the duration of the contract or their annuity underperforms, they can still rely on the income rider.
An indexed annuity is also called a fixed-indexed annuity. Unlike variable annuities, indexed annuities do not lose money with the stock market although its returns are pegged to an index. They give you the best of both worlds: a period of growth opportunity combined with the ability to structure a lifelong income payment. If you add an income rider, you will still have access to your principal, and any money not used for income can be passed on to your beneficiaries.
Indexed annuities are known for their ability to generate a benchmark return while providing a guarantee of principal and a lifetime income stream that can be turned on (and off again) at some point in the future. The key to how well these annuities perform has to do with a strategy known as indexing. It’s not about whether the market goes up or down, but when it does. If it goes down at the wrong time for your 5 or 10-year retirement horizon, you could be in serious danger of losing some of your retirement income. If you have assets that you would like to structure for retirement income, an indexed annuity may be the right choice for you.
Ask yourself the following questions:
- How concerned are you about finding a secure financial vehicle to protect your savings?
- How concerned are you that there may be a better way to structure your savings?
If you are concerned about the best way to fill your income gap, an income annuity investment tool is likely a good option for you. Income annuities have many similar qualities to Social Security that give them the same look and feel as that reliable benefit check you get every month. Most importantly, an income annuity can be an efficient and profitable way to solve your income gap. Have questions about annuities? Give us a call at (317) 903-9157 or fill out the form below to schedule a discussion.