By John Drachman
As popular as annuities are, they’re not new. Balzac’s Cousin Bette faced down her dramatic troubles thanks to timely payments from her 19th century annuity.
In fact, these financial instruments can be traced back to ancient Rome. Citizens then would make a one-time payment to the reigning Emperor in exchange for a lifetime of annual payments. Later, 17th century Europe adopted annuities to pay for decades of military adventures. In contrast, today’s annuities are peacefully paying the expenses of increasing numbers of retirees.
What are annuities?
Considerably more complex today than they were 200 years ago, modern annuities feature a wide range of benefits and payment arrangements. At its simplest, an annuity is a ﬁnancial product issued by an insurance company that allows tax-deferred growth of assets. Then, at retirement, most annuities provide a guaranteed income stream for a speciﬁed period – or for life. (Regarding income payouts, keep in mind that annuity guarantees are subject to the claims-paying ability of the issuing insurance company.)
Different types of annuities, whether variable or fixed, charge different fees depending on the purpose of the contract. Generally, variable annuities include an underlying investment like a mutual fund and charge fees accordingly. Fixed annuities offer either a fixed rate of return or a guaranteed income stream, which already reflect any fees to offset the company’s expenses and profit margins. Indexed annuities take a different approach by limiting returns through factors such as participation rates, spreads, and caps.
Four types of annuity fees
Knowing the most common fee types will help you evaluate products and ask the right questions:
- Insurance charges pay for insurance guarantees and the selling and administrative expenses of the contract that are automatically included in the annuity.
- Investment management fees are assessed on the investment options within variable annuities. Resembling mutual fund management fees, take a look at the annuity prospectus to learn how much you might pay on the underlying funds.
- Surrender charges can occur on any withdrawals above a preset limit. Surrender charges can be significant; so be sure you have enough in savings and investment to avoid unwanted surprises from these rather punitive fees.
- Rider fees can cover a standard cost associated with a contract – as well as a seemingly endless spectrum of specialized guarantees. For example, one type of death benefit rider could ensure your heirs receive at least the principal you invested upon your death. minus any withdrawals.
Because retirement is different for everyone, there are a wide variety of annuity options to consider before making your selection. Along with getting your annuity questions answered, consider discussing your retirement goals and risk tolerance with a financial professional. The result could be a dependable series of periodic, guaranteed payments at the dramatic center of your own life story.
John Drachman is a contributing writer to MyPerfectFinancialAdvisor, the premier matchmaker between investors and advisors .John is an IABC award-winning writer, who applies his 30 years of financial marketing experience toward advancing the dialog between investors and investment professionals.