An annuity is a contract between you and an insurance company that requires the insurer to make payments to you, either immediately or in the future. You buy an annuity by making either a single payment or a series of payments. Similarly, your payout may come either as one lump-sum payment or as a series of payments over time.
Why do people buy annuities?
What kinds of annuities are there?
What are the benefits and risks of variable annuities?
How to buy and sell annuities
People typically buy annuities to help manage their income in retirement. Annuities provide three things:
There are three basic types of annuities, fixed, variable and indexed. Here is how they work:
Some people look to annuities to “insure” their retirement and to receive periodic payments once they no longer receive a salary. There are two phases to annuities, the accumulation phase and the payout phase.
All investments carry a level of risk. Make sure you consider the financial strength of the insurance company issuing the annuity. You want to be sure the company will still be around, and financially sound, during your payout phase.
Variable annuities have a number of features that you need to understand before you invest. Understand that variable annuities are designed as an investment for long-term goals, such as retirement. They are not suitable for short-term goals because you typically will pay substantial taxes and charges or other penalties if you withdraw your money early. Variable annuities also involve investment risks, just as mutual funds do.
Insurance companies sell annuities, as do some banks, brokerage firms, and mutual fund companies. Make sure you read and understand your annuity contract. All fees should be clearly stated in the contract. Your most important source of information about investment options within a variable annuity is the mutual fund prospectus. Request prospectuses for all the mutual fund options you might want to select. Read the prospectuses carefully before you decide how to allocate your purchase payments among the investment options.
Realize that if you are investing in a variable annuity through a tax-advantaged retirement plan, such as a 401(k) plan or an Individual Retirement Account, you will get no additional tax advantages from a variable annuity. In such cases, consider buying a variable annuity only if it makes sense because of the annuity’s other features.
Note that if you sell or withdraw money from a variable annuity too soon after your purchase, the insurance company will impose a “surrender charge.” This is a type of sales charge that applies in the "surrender period," typically six to eight years after you buy the annuity. Surrender charges will reduce the value of -- and the return on -- your investment.
You will pay several charges when you invest in a variable annuity. Be sure you understand all charges before you invest. Besides surrender charges, there are a number of other charges, including:
Variable annuities are considered to be securities. All broker-dealers and investment advisers that sell variable annuities must be registered. Before buying an annuity from a broker or adviser, confirm that they are registered using BrokerCheck.
In most cases, the investments offered within a variable annuity are mutual funds. By law, each mutual fund is required to file a prospectus and regular shareholder reports with the SEC. Before you invest, be sure to read these materials.