By Bob Hock
If you walk into a meeting with any financial adviser, there’s a very good chance that the adviser will present an annuity for your nest egg. Annuities have turned into the Mr. Fix-It for all age groups. An annuity is a tax-deferred savings vehicle bought mostly by seniors, and is designed to supplement income needs through withdrawals. Annuities have a spot in many portfolios, but are they being overly recommended by advisers?
Buy an annuity when you’re young…or when you’re old!
No matter what your age, a fixed annuity makes sense for your nest egg. It makes the most sense when you can take advantage of the product’s tax-deferral benefit. It also separates your retirement asset from your bank account, providing you with a greater chance of not spending it.
The annuity adviser you choose may be your most important decision. You want an adviser with a history of recommending products with eight years or fewer of back-end surrender charges.
Don’t be overly impressed by the index annuity story
Index annuities have a nice story, but lest you think that the returns will approach any equity mutual fund, expect index annuity yields to shadow the fixed rate markets.
The word annuity means income
Buy a Single Premium Immediate Annuity (SPIA) with part of your nest egg. Most Americans need a guaranteed monthly check in the mailbox. So, look to take a piece of your nest egg and buy a lifetime income stream.
If you’re getting a literal free lunch, expect an expensive product
Unfortunately, many advisers think that paying for free lunches gives them the right to sell you an inferior annuity product. Avoid any sponsored lunch at all costs.
The bonus has plenty of strings attached
Speaking of free items, always raise your brow when your adviser mentions upfront contract bonuses. Usually bonus annuities have longer penalty periods for the insurer to recoup the bonus payment. Again, nothing is free.
Don’t fall for the long surrender charge story
Some advisers try to rationalize back-end charges. Don’t fall for the cliches and metaphors. Penalties are not your friend.
A complicated product doesn’t make it better
Granted, some index annuities are not easy to understand. Just don’t buy into the idea that sophistication makes it a better product. Attempt to understand it, but if it’s all Greek to you, it’s not for you. If you don’t understand it, it’s not you, it’s the product. Walk away.
Treat your contract like gold
Your policy has guarantees inside that could one day become very valuable. Never exchange your annuity for another until you consider your contractual guarantees.
Don’t be fooled by guaranteed withdrawal benefit riders with index annuities
This option sounds good, but there’s a high probability that your returns will be minimal, and you have to leave the funds there for your lifetime. You’re essentially just getting paid your principal over your lifetime. It feels comfortable, but your money is locked up for the rest of your life. It’s a big seller, but I prefer getting my income from an SPIA.
Bob Hock writes for earlebird.com
(Photo courtesy of Ed Yourdon)