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9 common annuity mistakes and how to avoid them

9 common annuity mistakes and how to avoid them

An annuity is a contract that binds the insurer to make a series of payments at regular intervals. They can be a valuable investment tool, especially for one’s retirement. However, people may make many mistakes when signing up for these, causing them to pay big sums in interest or deal with losses. Read on to find out more about nine common annuity mistakes people make and how to avoid them.

Choosing the wrong insurance provider/annuity
Investors can choose between five basic annuities – fixed dollar amount, inflation-adjusted, variable, guaranteed minimum withdrawal benefit, and guaranteed lifetime withdrawal benefits. Each of these has its own pros and cons, and choosing the right type is important to meet one’s financial or investment goals. Additionally, investors also need to pay close attention to the insurance company. These policies must only be purchased from highly reputable companies with a solid financial strength rating.

Overlooking the costs
Annuities are an expensive investment; failing to pay attention to the fine print when signing up could result in major losses. Just like other retirement tools, annuities too have associated fees, charges, and commissions. Most commonly, these include mortality and expense fees, administrative fees, surrender charges, investment management fees, and charges for optional riders. Carefully examine these charges when reviewing annuity options. Consider the total cost, as opposed to just one or two aspects of the plan, to determine the best option and avoid hefty fees.

Failing to understand how it works
It is crucial to understand how any investment plan works before signing up for it. With an annuity, this involves analyzing the costs and fees and how the payout will be calculated and delivered. There are two types of annuity payouts – for a lifetime or a predetermined period. Use an annuity calculator to compare plans and choose the best one. Getting lost in the jargon can be easy due to the technicalities involved. Salespeople may mention terms like fixed and variable annuities, index returns, mortality fees, surrender charges, etc. Ask the insurance provider to break these down into simple terms so one can make a better-informed decision.

Not listing one’s spouse as the beneficiary
For married couples, investing in a joint-life annuity or naming the spouse as the beneficiary may be a good idea. This could have a major impact on the total sum received from the insurance provider. Here’s how these two plans differ:

Joint-life annuity with IRA as beneficiary
The spouse only gets the actual sum owed at the time of the partner’s death.
Joint-life annuity with spouse as beneficiary
Regular payments continue as before (for the rest of the spouse’s life).

Ignoring the impact of inflation
With an annuity, investors receive their current payments in the form of future payouts. However, with rising inflation rates around the world, there is always the possibility of money losing its value during this time. To settle this, investors have two options – to make bigger annuity payments to adjust for inflation or to purchase an annuity that has an inflation protection component.

Investing too much
When it comes to investments for the future, it is best to take a balanced approach to one’s portfolio. Although they pay more interest in comparison to CDs and fixed deposits, annuities are generally considered to be an inflexible investment. This means that once money has been given away to an annuity, it cannot be taken back. Experts suggest investing no more than 25-30% of one’s assets in immediate annuities.

Skipping research
Don’t jump the gun on research when it comes to investments, especially for annuities. All providers have their own fees, charges, and terms and conditions that one needs to carefully consider before investing. Learn about the various annuity options available, and then reach out to providers to discuss the best plans for one’s needs. Lastly, check the insurance provider’s creditworthiness with rankings from companies like AM Best, Standard and Poor, or Moody’s. This can assure one about the provider’s ability to pay the annuity amount in the future.

Not considering an annuity at all
One of the biggest mistakes people make is perhaps not choosing an annuity at all. While the initial charges may seem high, this investment is a guaranteed source of income for as long as one lives. It takes away the risk of running out of money in one’s retirement years. It also helps one set up an additional nest egg for their partners, which can be a source of great reassurance in the later stages of life.

Withdrawing too much money
Some variable annuities allow investors to withdraw about 5-6% of the guaranteed value every year. Withdrawing any more of this amount could jeopardize the annuity guarantee. That is why experts recommend keeping enough money in other flexible investments to ensure continual cash flow.

The complexities involved can make annuities a confusing endeavor. However, as a living benefit, they provide an income stream for the rest of one’s life. Learning more about them before one decides to invest is a wise call – one that can help people ensure a financially secure and independent future. One must be sure to consider the objectives of the investment, associated risks, and all other details carefully before investing in an annuity.

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