What is an Annuity?
Learn how Annuities can provide you with a lifetime income stream for residents living in Maryland, D.C. and Virginia
Get Annuity Rates and Quotes
An Annuity is a type of savings plan that can be used by individuals and businesses that are looking for long term growth as well as protection of assets most likely to be used for a pension or retirement.
Millions of people utilize Annuities every year to in a sort have a guaranteed retirement income. Annuities provide quite specific advantages over other investment vehicles like Bonds and Stocks. Annuities can provide tax-deferred growth, guaranteed interest rates, long term growth, probate protection, some advantages in trusts and lifetime income while still guaranteeing the safety of principal through compounding of interest on interest. Most carriers now offer bonuses on principle for opening the account as well as any additional deposits for sometimes up to 7 years. Bonuses can range anywhere from 1% up to 8 to 10% on premiums which increases that nest egg by that much plus the guaranteed interest rate as well as market performance.
Congress passed special legislation that affects Annuities, just like 401K’s and IRA’s which is known as deferred accumulation which means that your account can grow faster because taxes are not paid yearly like other investments like CD’s. Any taxes that are paid in the future are then based on the distributions you take, letting you control your tax status, as most consumers will be in a lower bracket upon retirement. Annuities do have a downside for the exchange of a guarantee of long term growth and financial security. Most carriers have penalties for surrendering the contract as well as early distribution of funds similar to 401k’s and IRA’s if the funds are accessed prior to age 59 1/2. Annuities are great tools to ensure you have income besides Social Security and any other pensions to be able to live the life you want when your work life has come to an end. When you need the money the most, it will be there plus interest on interest.
Where do Annuities come from?
Annuities are offered by insurance companies which are evaluated by strength, reputation, reserves, interest rate renewals, and overall customer satisfaction levels. The laws of the land that govern insurance companies are very strict, as federal law requires that insurance company to hold in reserves at all times equal to the withdrawal value of your annuity. Also state laws mirror if not require more consumer protection depending on where you live.
Each annuity product and carrier has different characteristics. Depending on your overall wants, needs and objectives to create the retirement income you desire. They all allow you to maximize tax deferred accumulation and guarantee income for as long as you live, even if the initial principal is exhausted. The security they also provide is that you will never loose principle unlike other investments.
There are exceptions to the rule, which are variable annuities, which we do not offer. They are a specialized securities product that is directly linked to the stock market, bonds and mutual funds. Thus there is a real potential loss of principle. Understanding your risk tolerance and potential for loss of principle is important before making decisions about variable annuities.
How much do I need to start an Annuity?
Most carriers require a specified dollar figure to start a contract but the rule of thumb is its never to late to start. Some require a minimum of $2,000.00 for a Qualified plan and up to $10,000.00 for a Non-Qualified Plan. Qualified plan means that it fits in the framework and rules governed by the IRS to either be a 401K or IRA which can receive contributions pre-tax. Non- Qualified means that you have earned the money, already paid tax on those funds and decided to start a plan with after tax dollars.
How do they Work? What are the Benefits?
In the early 70’s annuities were primarily used as retirement income vehicles and the original definition of an annuity is a periodic income for a specified length of time, or the life of an annuitant, or a combination of the two. However an annuity can provide a means of accumulating interest on a tax-advantaged basis. As well as providing and estate instrument that preserves and protects assets. They also provide a guaranteed income for life that also lets you access the principle. Some carriers offer 5% to 10% of the account value per year without surrender charges or penalties.
Recent statistics reveal that most people do not convert the money they have accumulated in the annuity to an income stream which is known as annuitization. Instead, they treat the annuity value as any other asset and pass them on to their heirs in a big lump sum, not actually utilizing the maximum benefits of having the annuity in the first place. Articles show that less that 2% of deferred annuities are annuitized. Which is alarming because that means we work ourselves to death and don’t really have a chance to retire.
Tax advantages of Annuities
Principal and interest earned remaining inside the annuity grows without being taxed until withdrawn. Different than Qualified Retirement Accounts where you must start taking out funds around the age of 70 1/2. Most annuity contracts permit the owner to enjoy the advantage of tax deferral until the age of 85, 90 or even later than that. It is important to understand that tax deferred does not mean tax free, interest is taxed when it is withdrawn. Also its important to remember that the Treasury charges penalties of 10% on interest in addition to regular taxes if withdrawn before the age of 59 1/2.
Qualified Plans and Annuity Tax Deferral
Funds in qualified plans grow tax-deferred and funds in annuities grow tax -deferred. A regular IRA already grows tax-deferred because its a qualified plan, so why would you want a investment vehicle that is double tax-deferred. Sorry, it does not work that way. If your IRA is an Annuity IRA, or has an annuity inside of the IRA it is already growing tax deferred. So Why choose an Annuity? The answer is people usually buy annuities for the potential of higher yields. If your choice was an IRA Annuity yielding 6% with bonuses, or a similar non tax-deferred instrument yielding 5%, it is safe to say your decision to get an IRA Annuity is primarily based on return, not tax benefits.
Funds that remain in the Annuity grow free from current income taxes. Not only does the principal earn interest (Simple Interest), and the interest earns interest (Compound interest), as well as the money that would have gone to the government in taxes also earns interest (Tax-advantage Interest).
Non Qualified Plans and Taxes
Non qualified plans are basically that, non qualified. These are instruments and products that are offered by insurance companies also know as guess, Annuities. Non qualified annuities are started with after tax funds. Which means you already paid taxes on the money the first time. If you start a contract this way, only the Interest will be taxed when withdrawn. So this principal is know as Last in First out or LIFO. If you start your contract with non qualified funds in the amount of 100K, and over the years the account value grows to be 450k, when you start withdrawing funds, the 100k will be dispersed first and then the interest. After that initial deposit is gone, the interest will be taxed.
Avoiding Social Security Benefit Taxation
When you reitre and the sum of your pension, taxable interest income, tax-free muni bond interest and social security income is over a threshold amount, you can be forced to pay taxed on your social security benefits. What was that, yes they want taxes again! The good news is that interest compounding within an annuity in not counted in that calculation. If you move dollars generating compounding interest from a taxable account to an annuity you may be able to lower or avoid Social Security Benefit Taxation. Another great reason to invest in annuities.
Immediate Annuities or Income Annuities
If you have a deferred annuity and its almost to the time of annuitization and you see the rates have changed hopefully higher, you can simply purchase an immediate annuity also known as an income annuity. Remember that almost all deferred annuities may be annuitized and become immediate annuities, but no immediate annuity can become a deferred annuity. Make sure you choose wisely.
Immediate annuity payments are usually fixed and unchanging, but payments may be variable or have both variable and fixed elements. Variable immediate annuities, which we do not offer have a fixed number of income units with the value of those units fluctuating because they are based on the value of the underlying investment. The payments from a Variable immediate annuity will go up and down. An index immediate annuity has a guaranteed payment with additional amounts depending upon the performance of external index and the age of the annuitant when payments start.
I hope this gives you a better understanding of what exactly an Annuity is and how it can be used to help you achieve your goals.
Get Annuity Rates and Quotes