When to Buy a Deferred Annuity
With more people reevaluating their retirement plans in the face of uncertain economic conditions, the deferred annuity has risen on the radar of planners who have suddenly become more concerned about the return of principal rather than the return on principal. The rush to move money out of the volatile markets into safe and secure alternatives has brought deferred annuities to the forefront of options available, however, further consideration is required to determine when to buy a deferred annuity.
Deferred annuities are long term commitments generally used for retirement savings. While most everyone is concerned about securing their retirement, they may not all benefit by the purchase of a deferred annuity. While the competitive fixed yield, guaranteed growth, tax deferred interest earnings, and safety of principal would benefit most people, the timing of the purchase of a deferred annuity is what determines it true viability in any given situation.
Factors for Determining When to Buy a Deferred Annuity
To obtain optimal benefits from a deferred annuity it does come down to the timing of the purchase. There are several factors to determine when to buy a deferred annuity: Time horizon, appropriate investment mix, and zero to low risk tolerance.
When You Have Enough Time
The time horizon needs to be right. It has to be long enough to allow for significant accumulation. If the time horizon is too long it may mean that the person is of the age where a long-term commitment may not make sense. For example, a young family man may have a greater need for liquidity to meet shorter term goals or emergency needs. Most financial advisors would suggest that younger people with a 30 or 40 year time horizon, should take a little more risk and invest in growth oriented investments that will outpace inflation over time.
Conversely, a person with a time horizon much shorter than 10 years is probably not a good candidate unless he plans to keep the annuity well into his retirement. A 15 to 30 year time horizon is ideal and would allow enough time to optimize the tax deferral on interest accumulation.
Pre-retirees could consider a laddered strategy whereby they purchase a series of deferred annuities starting 10 or 15 years before retirement that they can allow to accumulate over varying intervals of time. This would enable them to annuitize the deferred annuities at different stages optimizing tax deferral. The later in retirement they are annuitized, the greater the income payout will be. This can provide an offset to higher costs due to inflation.
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When You Have an Appropriate Investment Mix
Any investment should be considered in light of the total financial picture. This is where you thoroughly analyze your current financial situation and determine your goals, priorities and tolerance for risk. It is also where a proper allocation of assets is developed that will achieve the diversification and balance that will protect your assets from inflation and provide long term stability.
A deferred annuity can provide balance and stability to a portfolio. The question of whether an investment portfolio should be built around a deferred annuity, or should a deferred annuity be an addition to an established portfolio needs situational consideration. The best time to purchase a deferred annuity is when you have satisfied most of your most essential planning needs and can afford the long term commitment.
When you Have Lost Your Tolerance for Risk
There are many reasons why someone would develop a low tolerance for risk. For some, a low risk tolerance was instilled in them by their parents who might have lived through a catastrophic investment experience. Others may have experienced their own catastrophe. Millions of people saw their retirement plans reduced by half during the recent steep market decline. For those who experienced the volatile markets of the last decade, they may have concluded that the negligible returns that stocks produced were not worth the sleepless nights.
Zero or low risk tolerance is not something that should be taken lightly. At the same time, it is important to understand that there are more risks than just market risk. Inflation risk and interest rate risk can also threaten a secure retirement. For the person without risk tolerance who has considered these additional risks, the right time to buy a deferred annuity may be right now.
An indexed-linked deferred annuity may be the answer for those who can’t tolerate the volatility of the stock market but would like to earn potentially higher returns. Linked directly to the returns of a broad stock index, the yields on this annuity can increase as stock prices increase, and the downside is protected with a minimum rate guarantee. A combination of a fixed deferred annuity and an index-linked annuity may offer the optimum balance of stability, potential for higher returns and safety of principal.
There is no simple answer for when to buy a deferred annuity. All pertinent factors need to be considered as part of an overall financial plan. It’s not necessary for the moon, the sun and the stars to be aligned. The best time to buy is when the circumstances are right. If you know your situation, know your plan and know how to optimize the benefits of a deferred annuity, you can’t go wrong.
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