Rising interest rates are making annuities more appealing to investors, to the point that annuity sales are breaking records set during the Great Recession in 2008. Annuities, which may provide retirement income, are becoming a viable choice for employees whose companies do not offer pensions.
According to preliminary survey data from LIMRA, a financial services trade group, annuity sales rose 22% to $77.5 billion. These figures are the greatest quarterly sales since LIMRA began tracking annuity sales in 2014, surpassing the previous record of $9 billion set in the fourth quarter of 2008.
While annuities are currently popular, the concept extends back to early Rome, where residents would pay a flat amount for an annual income contract. Modern annuities are more sophisticated than that, despite the name, and they are not for everyone. Before you contemplate an annuity, you should understand what annuities are, what possibilities they give, and how safe your money will be.
What Exactly Is an Annuity?
Annuities are insurance contracts in which you, the buyer, pay an insurance firm to invest your money so that it grows tax-free. In some instances, the annuity will subsequently offer a stream of income based on the contract stipulations, either for life or for a specific period. Annuities protect against outliving your investments since they pay for as long as the contract stipulates, even if the underlying principle and any earnings have been depleted.
If you have a lifelong annuity and live an extended period, you might collect significantly more than you originally invested. However, depending on the annuity’s terms, it’s conceivable that you’ll die before recouping your investment.
Annuities are classed in various ways, depending on how they are acquired and how the assets develop. They can also be tailored using various contract conditions known as riders. An annuity, for example, might have a long-term care rider that boosts your payout if you require long-term care. Alternatively, a rider might direct that money from an annuity to a beneficiary if the annuity holder dies before receiving the amounts.
Remember that these riders are expensive, so the income payments will be lower if your annuity produces an income stream. In other cases, an annuity may pay a lump at a specific date.
Which pays more: annuities or CDs?
Annuity buyers may be looking for the security of a CD but with a higher return, and annuities provide that these days.
Investors purchased fixed-rate delayed annuities at record levels in the second quarter, according to Todd Giesing, assistant vice president at LIMRA Annuity Research. Analysis reveals that fixed-rate deferred annuity manufacturers offer interest rates more than four times those of a bank CD, making these products an excellent value for investors seeking safety and growth potential.
In June, LIMRA reported a three-year average interest rate on a fixed-rate deferred annuity of 2.98%, compared to a three-year CD average interest rate of 0.64%.
Deferred Annuities vs. Immediate Annuities
Annuities are classified into two sorts based on how they are purchased: immediate annuities and delayed annuities. Immediate annuities will begin delivering a monthly income stream within a year of purchase. They are ideal for retirees who want immediate reimbursements.
How Do Annuities Help You Grow Your Money?
Aside from the issue of when annuities begin paying (immediate vs. delayed), annuities also come in various flavors in terms of what they pay out.
Different annuities grow at various rates: If your contract specifies a fixed-rate annuity, the funds will increase at a fixed interest rate for the years stated. The rate can be reset for the next period when the term expires.
Variable annuities allow you to invest in mutual-fund-like subaccounts, with the payout based on the success of the portfolios.
Moreover, indexed annuities will increase based on an index like the S&P 500.
Fixed and indexed annuity sales have benefited the most from the present economy, whereas variable annuity sales have suffered. According to LIMRA, the second quarter of 2022 was the biggest sales quarter for fixed-rate deferred annuities ever recorded. Their overall sales in the second quarter were $28.2 billion, 76% more than revenues in the second quarter of 2021.
Fixed-indexed annuity sales increased 19% in the second quarter to $19.7 billion. However, the sales of variable annuities plummeted 32% to $15.4 billion, the lowest quarterly total since 1995. Compared to the same period in 2021, variable annuity sales were down 22%.
“The big interest rate rises in the second quarter benefited both FIAs and fixed-rate deferred products,” Giesing added. With the equities market down almost 20%, investors wanted primary protection and growth potential, which these instruments provide.
Single Life vs. Joint Life Annuity Payouts
If you purchase an instant annuity, the maximum yearly payout will be obtained if you choose a single-life version that ceases payments when you die, even if your spouse is still living. However, if your spouse relies on that income, accepting a reduced payout that lasts for the rest of his or her life may be preferable. (Some annuities are guaranteed to pay out for a set number of years, even if you and your spouse die.)
Men vs. Women in Annuity Payments
In general, the longer your life expectancy, the less your payments will be if you have a life annuity. The older you are when the annuity starts paying, the greater your payments will be ( because your life expectancy is shorter). As a result, some people ladder their annuities, investing some money early in retirement to meet expenditures and adding more as they age to increase payouts.
Furthermore, laddering allows you to capitalize on growing interest rates: each new contract will include the most current rate. This is also why males earn bigger payouts from their life income annuities than women, who have a lower life expectancy and, on average, receive fewer payments.
You will be charged fees if you cash out your annuity early.
Although delayed annuities allow you to cash out at any time, you may not get your investment back. In the first year of surrendering an account, surrender charges are typically between 7% and 10% and subsequently drop each year until they disappear after seven to ten years. In addition, if you remove the money before the age of 59.5, you will usually have to pay a 10% penalty.
Even if the insurer goes bankrupt, your annuity is safe.
You must acquire your annuity from a financially sound insurance provider. Annuities are neither regulated nor insured by the federal government but rather by states as an insurance product. Fixed deferred annuities and fixed state guarantee associations protect immediate annuities. The extent of protection varies from state to state.
Purchasing an annuity with your 401(k)
A rising number of employers are allowing employees to invest in an annuity through their 401(k) plans, which can be turned into guaranteed income when they retire. And, because federal retirement law requires 401(k) plan providers to assess annuity providers to ensure they comply with state rules and have enough financial reserves, this option may be more tempting than purchasing annuities on the open market.
Furthermore, annuities purchased through a retirement plan may benefit from institutional pricing, which means they may have cheaper expenses.
The annuities offered by large plan managers such as TIAA-CREF and Fidelity usually intend to replace the fixed-income assets of 401(k) members. However, the higher complexity of annuities (as opposed to, for example, a mutual fund or ETF) do not disappear just because they are acquired within the more familiar constraints of a 401(k) (k). When adding an annuity to your portfolio, you’ll still have to decide when (or if) to annuitize it – transforming it into a guaranteed income stream, which is usually an irreversible decision.