If you’re getting a jump on planning for retirement, one option you may wish to consider is a deferred annuity. Deferred annuities are long-term financial investments which can offer both tax and income advantages. You place your money into an annuity and, after a period of time, receive income payments. Payments typically begin after several years, once the principal has amassed interest. Let’s take a closer look at what a deferred annuity is, and why one may help you meet your retirement needs.
Deferred Annuity Types
Deferred annuities come in three basic types: fixed, variable or indexed.
- Fixed annuities offer interest rates that do not change over the life of the annuity. This makes them highly stable and an excellent choice for investors with low risk-tolerance, however their stability is offset by lower returns.
- Variable annuities provide interest rates tied to a collection of stocks and bonds. This gives them the ability to offer higher returns compared to fixed annuities, but generally makes them less stable. If the annuity’s pool of stocks and bonds do poorly, so to will the annuity.
- Indexed annuities blend aspects of both fixed and variable. They offer a guaranteed minimum interest rate, while also allowing for higher rates when possible. While this may sound ideal, these annuities come with their own set of limitations and should be thoroughly discussed with a qualified financial advisor.
Regardless of the type of deferred annuity you choose, they all have two individual phases: an investment phase and an income phase. The investment phase commences as soon as you buy into an annuity and concludes after you make your final contribution. You will typically have the choice of contributing to your annuity in a single large installment, or making a series of smaller payments over an extended time frame.
When the investment phase ends, the income phase begins. This is when you can expect to receive your first payment. Similar to the investment phase, you can opt to receive your money in a single large sum, or you can choose to get periodic payments until the funds in the annuity are depleted. In some cases, the annuity can be structured to make payments to you until your death. It is also possible to sell annuity payments if you are currently receiving payments from an insurance company.
A primary advantage of a deferred annuity is that it is a tax-deferred account similar to a 401K or IRA. You to make your contributions with pre-tax dollars. Your money then accumulates interest and is only taxed when withdrawn from your annuity. Like other retirement accounts, if you make a withdrawal before age 59 ½ you will incur a penalty from the IRS.
Why Choose A Deferred Annuity Over An Immediate Annuity?
This is a good question and depends largely on your financial goals. Immediate annuities begin to pay returns as soon as you invest, giving you incoming money right away, but reducing your potential overall return. Deferred annuities go through their initial investment phase, allowing them to accrue interest and offer greater lifetime returns. In addition, a deferred annuity will typically be structured to convert to an immediate annuity should your financial situation change.
With everything they offer, it’s easy to see why deferred annuities are a popular choice for many people’s long-term retirement strategy. If you are planning for your retirement, these financial instruments may help you meet your goals. Consider discussing your options with a financial advisor to learn more about putting deferred annuities to work for you.