Annuities for the Average Person

For the average person trying to plan for the future, the proliferation of financial products, information, and companies competing for your savings dollars has left them confused and bewildered to the point of paralysis.  The idea of venturing into the storm of volatile financial markets spawned by economic uncertainty is frightening for all but the most sophisticated investors. Fear leads to inaction which is can be devastating for anyone who wants to be able to secure their financial future.

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Current Reality

Most of us have been spooked by the wildly fluctuating markets and the historic declines that devastated the average person’s retirement accounts.  While the average person understands the need to be proactive in securing his financial future, the unpredictability of the economy and the markets gives him pause.

More and more people are looking for predictability and stability for their retirement savings and they want to be secure in the knowledge that they won’t outlive their income.  When you consider the historic market decline of 2008 and 2009 which devastated the retirement accounts of many people at or near retirement, there is little question that many of them would have swapped the potential for higher returns with the option of a stable, predictable investment that provides a secure, lifetime income stream.

There are few choices for people hoping for a secure retirement that offer safety, stability and the security in knowing that they cannot outlive their income .  In fact, there is really only one and that is a fixed annuity.  When the features and benefits of a fix annuity are considered in light of the growing desire for safety, stability and security, it’s not difficult to see why the average person would find it a very attractive alternative.

In its simplest terms a fixed annuity is an insurance contract with a life insurance company that includes a savings element.  The life insurance company guarantees the principle and credits the savings account with interest based on the prevailing long term savings rates.  When it is annuitized, the life company establishes a fixed rate of payout that will provide a secure and predictable stream of income for the life of the annuity owner.

Because an annuity is an insurance contract, the interest accumulation is not currently taxed which means that it will grow faster than if it were in a taxable savings account like a money market fund or a CD.  In this way it is treated like qualified retirement accounts such as an IRA and, so withdrawals prior to age 59 ½ are penalized at 10%. Let’s consider the benefits of an annuity in light of the average person’s desire for safety, stability and predictability:

Safety

Like banks, life insurance companies provide a guarantee of principle.  Whereas bank customers are assured of this guarantee with the backing of federal insurance through the FDIC), life companies are required to establish a similar insurance through legal reserve requirements.  A percent of all deposits must be set aside by the life insurance company as a reserve fund that would make up any deficiencies caused by reduced assets.  Further, life companies are stringently examined each year to ensure they maintain the right ratio of reserves to liabilities. 

The more effectively managed insurers manage to generate surpluses which also serve to strengthen their reserve commitment.  This system is the reason why, through great wars, depressions and periods of economic strife, life insurance companies have been the only financial institutions to consistently come through for their customers.  Annuities issued by the strongest, most highly rated life insurers are considered extremely safe.

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Stability

The average person today is more concerned about the return of his principle rather than the return on his principle. Those who suffered through the calamity of historic stock market declines may be thinking less in terms of trying to achieve higher returns and more in terms of achieving stability for their money at work.  The relatively low yields of current annuity products probably seem very attractive to a future retiree who lost as much as 50% of their retirement account.

When you consider that, between the years of 2001 and 2010 the stock market achieved a 0% net gain, one would have to ask, “Why go through all of that turmoil when I could have done just as well with my money in my mattress?”  A fair question, however, that person would have done much better with their money at work earning low fixed, tax deferred interest with no risk of principle.

The yields on fixed annuities  are relatively stable and, as interest rates rise, so too do the current yields of annuities which offers some inflation protection as your money earns competitive returns. By adding a cost of living adjustment option to your annuity you can further protect your income against inflation.

Security

The whole purpose of saving for retirement is to secure an income that will last your lifetime.  Annuities are the only individual investment vehicle that can offer the peace of mind that most people want when it comes to their retirement needs.  Annuities were created with that purpose in mind.  Using actuary calculations that combine current mortality rates and the cost of money, life insurers are able to establish a payout rate that will provide a predictable stream of income for the life of the annuity owner. Translation: You can’t outlive the income. 

Throughout the savings period, your money accumulates through tax-deferred, compounded interest. When you’re ready to receive the income, the life insurer annuitizes the accumulated sum of money into a guaranteed income stream.  Since the payout rate is based on your age at the time of annuitization, the older you are, the higher your payout rate.  The best course of action might be to wait as long as you can to annuitize.

With a fixed annuity as the core of their financial foundation, providing safety and security, the average person may feel more inclined to venture  carefully into other investments that offer more growth opportunities.

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