For many Americans, retirement savings begin and end with 401(k) plans or Roth IRAs. Though these are great retirement accounts and investment options, they aren’t the only ways you can build your nest egg.
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When it comes to truly growing your wealth, are annuities a good idea for your retirement savings?
Investing in Annuities: Quick Take
So what is an annuity? Annuities are insurance company products that pay out at a fixed rate or amount of money in a series of payments instead of a lump sum payment. Their main function is to remove longevity risk for retirees, meaning they don’t have to worry about outliving their savings.
Simply put, annuities work by providing a reliable stream of income in your retirement, but unlike life insurance, if you die too soon, you may not get your money’s worth. Keep in mind that buying an annuity can come with high fees when compared to other investment options so may not best fit your retirement plan. Though can customize your annuity this will cost more which can result in a lower monthly income.
Annuities have a handful of advantages. Here are the main reasons you should consider one for your retirement savings.
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They Provide Safe, Steady Returns
Whether it’s a fixed or deferred income annuity, your money is in a safe place that provides steady returns over a long period. The money grows through the interest you earn, so it pays to find the best rates.
The savings are tax-deferred, so you don’t pay any income taxes on the annuity until you start to withdraw funds. One thing to keep in mind about annuities is that they are typically divided into two phases:
- Accumulation phase: Sometimes called the investment phase, this is the period during which contributions are made to the account and funds grow. Appreciation during this time is based on contractual guarantees or investment performance, depending on the type of annuity purchased.
- Annuitization phase: The second phase is the annuitization or payout phase. This is when you start receiving payments. These payments can be a lump sum, periodic payments or some combination of the two. The amount paid out is determined by the amount contributed, the performance of the account, your expected lifespan and the type of distribution you selected.
Because annuities offer a guaranteed rate of return, they can be appropriate for more risk-averse consumers by letting you avoid the risk and volatility associated with stocks, funds, real estate and other investments.
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They Can Offer Better Returns Than Other Investments
Investing in an annuity can provide a larger return than other types of financial products — as long as it’s the right annuity. For example, the average rate for a 60-month CD was only 1.40% as of 2024, according to the FDIC. The average rate for shorter-term CDs ranged from 0.23% for a one-month CD to 1.83% for a 12-month CD.
Annuities Can Diversify Your Portfolio
Adding annuities to your retirement strategy is a good way to diversify your portfolio, so it has the right mix of assets. You want to keep a balance of savings accounts, annuities, stocks, bonds, mutual funds and other investments to protect against slumps in any one asset class and avoid tax penalties.
Your Income Can Last a Lifetime
There are different types of annuities, and some come with a guaranteed payout for the rest of your life. Another benefit is that you don’t have to stress as much about unexpected expenses, because you know you’ll have the annuity income in addition to income you get from Social Security or withdrawals from other retirement savings accounts.
Tax Advantages
When you invest in annuities you get tax-deferred growth, meaning the earnings on your investment are not taxed until withdrawals are made. This lets your investments grow faster and also optimizes your tax strategy in retirement.
Final Take To GO: Pros and Cons of Annuities in Retirement
The bottom line is that in order to get where you need to be financially in retirement, there are many investment options to consider. When it comes to annuities there are both benefits and drawbacks to factor in for both your short and long-term goals. Here are the key pros and cons of investing in annuities for your retirement savings:
Pros
- Provide a guaranteed income
- You can customize the features to fit your needs
- Comes with money-management assistance
Cons
- You pay high commissions, especially for the customization and assistance you require
- They often come with higher fees than other retirement investments
- You have to pay surrender charges
Caitlyn Moorhead contributed to the reporting for this article.
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This article originally appeared on GOBankingRates.com: 5 Reasons You Should Consider an Annuity for Your Retirement Savings
