Comparing Lifetime Annuities

In the search for the best investment vehicles to secure your retirement, it quickly becomes apparent that each investment product has its own special vocabulary, host of options, and caveats. Becoming reasonably fluent in these options will mean the difference between a comfortable and cash-strapped retirement. The good news is, it doesn’t take much effort to learn the ins and outs.

Different from stocks, bonds, mutual funds, independent retirement accounts, and certificates of deposit, annuities are insurance products. In effect, an annuity insures your wealth against the possibility of loss. In the language of annuities, as you add descriptive terms, the products become both more diverse and complex. Although every annuity holds and grows your investment, ultimately returning it as a steady income when you need it, you face an array of annuity contract types – fixed annuities, variable annuities, equity indexed annuities, and lifetime annuities. All those terms describe how the insurance company guarantees, calculates, and distributes interest.

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Lifetime Annuities 101

Fundamentally, a lifetime annuity is an insurance policy against you exceeding your life expectancy. As odd as that may seem, exceeding life expectancy can be a nightmare rather than a boon if you run out of wealth and aren’t able to generate more. As life expectancies increase, lifetime annuities are becoming more and more necessary, and they raise the distinct possibility of collecting more than the combination of your principal and interest.

The difference between “lifetime” annuities and “term” annuities lie in how the contract disburses earnings. Term annuities pay a regular amount for a specified period of time. Lifetime annuities keep paying as long as you live. Fixed lifetime annuities are one of the safest retirement planning instruments on the market. Most annuities protect against loss, and lifetime annuities guarantee that you always will get a paycheck at the end of the month. A single lump-sum investment today can guarantee income that you can never outlive.

Comparing Lifetime Annuities

Always consult a trustworthy financial planner as you consider your investment options; and ask your financial planner to help you keep track of all the tricky vocabulary as he or she aligns comparable products and highlights their differences. Although it seems painfully obvious, for your own protection, make sure that the comparison really does illustrate the similarities and differences between same-named annuities – you know the old axiom about apples with apples and oranges with oranges.

Although most insurance companies offering annuities are financially stable, for peace-of-mind, make sure your contract is backed by an A or A+ rated company. There’s usually little to gain by shopping with a B-C rated insurer. Three key variables should determine your choice:

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Annuity Interest Rates and Rate Caps

A “fixed lifetime annuity” always pays the same rate of interest, and always delivers the same paycheck.  You have the option of adding cost-of-living protection to your annuity; you and your financial advisor can decide whether or not the extra protection is worth the extra cost. Depending on your preference for life insurance, it may or may not be.

A “variable lifetime annuity” grows according to how your chosen sub-accounts perform during the given year. Because equity performance varies day to day, so will the interest at which you account grows. Variable annuities are generally riskier than fixed or equity indexed because the investor, not the insurance company, assumes all the profits as well as the losses. The most important factors in choosing a good variable lifetime annuity include finding a contract with a wide range of sub-accounts to invest in and low management fees.

An “index lifetime annuity” returns an interest rate based on a market index bellwether, like the S&P 500. Unlike variable annuities, which place all risk on you, an index annuity offers a fixed minimum rate. When comparing index annuities, evaluate the “participation rate” – what percentage of growth the insurance company it will share with you in return for covering potential losses.  For example, if your contract stipulates 90% participation and the S&P 500 grows 10%, your annuity will accrue 9% interest. Participation rates can be as low as 40% and as high as 90%. In addition to the participation rate, a cap rate may determine the maximum interest your index annuity can earn during the year, even if the S&P 500 skyrockets.

Administrative Costs and Early Withdrawal Penalties of Annuities

Fixed lifetime annuities should be free of administrative costs or “front-load”. Nearly all fixed annuities will feature withdrawal penalties. The upside is that a large majority of fixed annuity investors never incur these fees because they can wait until their contract matures. Nevertheless, it’s always a good idea to compare contracts to find the most favorable withdrawal schedule, just in case. You should consider liquidating your lifetime annuity only under the most extreme circumstances, because penalties and taxes can wipe-out your earnings. Although a few companies now offer fee-free and no-penalty variable annuities, they remain rare, and they often make-up those lost revenues in other ways. You should reasonably expect to pay an annual administrative fee for a variable annuity – just as you would with a mutual fund. Shop for variable lifetime annuities with administrative fees under 2%.

Annuity Death Benefits

If you die before your lifetime annuity matures, it ought to pay a death benefit or pass to your beneficiary. Every annuity contract will have its own death benefit provisions; some contracts offer optional riders to increase and tailor the benefit to individual investors. You’ll want to take into consideration your financial situation and any previous life insurance policies to determine the importance of death benefits to you. One of the major advantages of lifetime annuities is their flexible death benefit provisions.

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