What is an Annuity?
Annuity is one of the best instruments for people nearing their retirement age. Annuities are unique products that can enhance your retirement security. There are different categories of Annuities and they can be classified under:
- Fixed or variable
- Accumulation or pay-out (deferred or immediate)
- Fixed period or lifetime
- Qualified or nonqualified as far as tax is concerned
The reason why you should go for an annuity is of the multiple benefits you can derive like:
Tax deferrals on investment earnings
Every year, there are a large number of investments being taxed. In Annuities though the capital gains and investment income will not be taxable till the time you don’t withdraw out of the policy. The benefit of tax deferral is also available on 401(k)s and IRAs but unlike an IRA, an annuity has much higher deposit limit. You can practicaly put any amount into an annuity policy. Apart from this the minimum withdrawal requirements for an annuity is more flexible than an IRA.
Various investment options
There are many annuity companies who will offer a variety of investment options for you. You can choose to invest in a fixed annuity where the interest rate will be fixed or a variable annuity where the interest rate will be different each year. In a variable policy, your money will be invested in stocks or any mutual funds. In the last decade or so, most insurance companies have created what is called floors. Floors help to limit the extent of investment decline from an increasing reference point.
Tax-free transfers among investment options
Annuities have one more interesting benefit. If you change the method of investment of your funds in annuities then there are no tax consequences applicable unlike in other investment tools. This is quite beneficial while using the strategy of rebalancing.
Lifetime income
Lifetime immediate annuities provide you with the option of multiple payments after investment in the policy. As long as you keep making the investment, you will keep on getting your payments. The payments are actually made from three so called pockets, which include your investments, investment earnings and money from the common pool. Pooling is something that is quite unique to annuities and it helps insurance companies to guarantee you a lifetime income.
Benefits given to your heirs
There is a misconception that if you die soon after purchasing an immediate lifetime annuity then the insurance company will keep all your investment. It does happen sometimes but it is not a law. You can prevent it by buying a guaranteed period option or rider with the immediate lifetime annuity. If you purchase this option then the insurance company is committed to a payout of installments even after your death. Of course you will be required to designate beneficiaries so that the payout can take place.
Free Look Provision
Most insurance companies offer annuities with a free look period after you have purchased the annuity. During the free look period, you can go through the entire policy and even cancel it. The standard free look period is 10 days.
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