What is a Variable Annuity?

Retirees who are aiming to maximize their financial security may want to consider investing in variable annuities. This type of annuity offers the potential for higher returns associated with the stock market while also providing the safety of retirement income afforded by regular annuities.

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Like most retirement accounts, you can customize your portfolio based on your goals when it comes to variable annuities. That does mean that more risk is involved but also that greater gains could potentially be made. Still, there is always the possibility of losing money even with these investments.

What is an Annuity

For individuals considering retirement planning, annuities are a common option. By paying in either a single lump sum or various installments, customers enter into contractual agreements with annuity companies or insurers. 

As part of the agreement, these organizations guarantee income payments that reflect customer contributions and potential investment gains. The length of payment terms may range from mere weeks to lifetime coverage according to the specifics established by each respective contract.

There are three primary types of annuities to consider:

Index Annuities Fixed Annuities Variable Annuities

How does the Variable Annuity Work?

When investing in a variable annuity, the initial step is purchasing an annuity contract. You can do this by paying a lump sum to the company, transferring funds from another retirement account such as a 401(k), or with the option of smaller payments over time. 

Once the contract has been issued, there are two options available – deferred and immediate variable annuities – which will need consideration and selection based on your individual needs and circumstances.

Instead of receiving payments immediately, a deferred variable annuity allows you to postpone them until further down the road. This type of annuity provides more time for the balance to accumulate rather than an immediate variable annuity, which requires payments right away upon enrollment and contribution of funds.

When it comes to investing funds, a variable annuity is an option that gives individuals the opportunity to put money into investment subaccounts. These subaccounts resemble mutual funds but are specifically tailored for annuities and they invest in a variety of assets such as stocks, bonds, and money market funds.

When picking an annuity, you will be presented with a list of subaccounts to choose from. This list will have information regarding the specific focus of each subaccount, such as whether it’s all stocks, bonds, or even a 50/50 mix. It is then up to you to decide how much of each should make up the overall portfolio.

Variable Annuities versus Fixed Annuities

In the 1950s, those seeking a different type of annuity were presented with the option of a ‘variable annuity’. Unlike fixed annuities that offer a predetermined return regardless of age, these offer fluctuating payments depending on several external factors.

Investors had the opportunity to benefit from potential gains in the stock market when they opted for a fixed annuity. These plans offered a selection of mutual funds issued by an insurer, so individuals could potentially earn higher returns while accumulating their savings and receive increased income during their retirement years.

When compared to fixed annuities, buyers of traditional investments face a major disadvantage – market risk that could lead to heavy losses. In contrast, insurance companies take on this burden when offering fixed annuities, guaranteeing whatever return was promised.

 

The Pros and Cons of Variable Annuities

When deciding on any investment product like variable annuities, it certainly makes good financial to weigh the pros and cons to you can make an informed decision.

Do Variable Annuities offer Living Benefits?

Additional benefits can be added to a fixed annuity at an additional charge called riders. One of the most popular is the Guaranteed Lifetime Withdrawal Benefit, which assures an income stream even when funds are low due to investment losses. Essentially, it guarantees a predetermined level of annuity payments for life, regardless of account size.

Other optional riders available from most annuity companies are:

Guaranteed Minimum Accumulation: At a certain point in time, should you remain in your variable annuity contract and not reduce its value to zero, you can be sure of receiving some fixed percentage (most commonly 100%) of all premiums paid under Guaranteed Minimum Accumulation Benefit (GMAB). Should you find your account worth less than the minimum required amount, an insurance company will cover this gap. Guaranteed Minimum Income Benefit: Retirees can ensure a dependable stream of income for life through Guaranteed Minimum Income Benefit (GMIB). This retirement benefit is comparable to Deferred Income Annuities, which involve making contributions now and converting them into an annuity at a later date. As with two-tiered annuities, it’s necessary for annuity owners to choose GMIB when purchasing their contract and then convert it into an income stream sometime in the  Guarantee Lifetime Benefit Withdrawal: With a Guaranteed Lifetime Withdrawal Benefit (GLWB), you can rest easy knowing that throughout your lifetime, withdrawals of up to a certain amount are guaranteed. You no longer have to worry about running out of funds!

What about the Fees?

When considering an annuity insurance company, one must take into account the fees that are associated with the different riders, investment management, and other extras. Typically, these charges range from 3% to 4% of the present contract value.

To give an example, a variable annuity of $500,000 in worth will see around $15,000 to $20,000 in expenses for this current year.

Surrender Charges: Investing in a product with surrender charges can be risky, especially when it comes to taking out any of your money before the allocated time. There are penalty-free withdrawals available for some annuities that permit an allotted sum every year without penalty, however, exceeding this figure could incur a fee for each dollar beyond what has been set. Administrative Fees: Typically, administrative fees amount to recordkeeping and various other administrative fees. Mortality and Risk Charges: When an annuity contract is created, a mortality and expense risk charge must be paid to cover any potential risks for which the insurance company assumes responsibility. This charge reimburses them for any losses incurred due to their involvement in such a transaction. Rider Fees: Rider fees cover the expense of adding various riders to your variable annuity contract. Other Charges: Aside from the typical costs associated with running an investment account, there can also be some additional fees that are applied. For example, initial sales loads or charges for transferring part of your account from one option to another may apply. Market Value Adjustment Charges: When purchasing a variable contract, you should be aware that it may come with a Market Value Adjustment (MVA). This could have an impact on the account value, cash surrender value, and/or death benefit value when withdrawing money from the annuity. Generally speaking, when interest rates are lower than what was paid for the annuity upon withdrawal of funds, the MVA can result in additional cash available from your policy.

The Death Benefit in a Variable Annuity

When considering an annuity insurance company, one must take into account the fees that are associated with the different riders, investment management, and other extras. Typically, these charges range from 3% to 4% of the present contract value.

To give an example, a variable annuity of $500,000 in worth will see around $15,000 to $20,000 in expenses for this current year.

Surrender Charges: Investing in a product with surrender charges can be risky, especially when it comes to taking out any of your money before the allocated time. There are penalty-free withdrawals available for some annuities that permit an allotted sum every year without penalty, however, exceeding this figure could incur a fee for each dollar beyond what has been set. Administrative Fees: Typically, administrative fees amount to recordkeeping and various other administrative fees. Mortality and Risk Charges: When an annuity contract is created, a mortality and expense risk charge must be paid to cover any potential risks for which the insurance company assumes responsibility. This charge reimburses them for any losses incurred due to their involvement in such a transaction. Rider Fees: Rider fees cover the expense of adding various riders to your variable annuity contract. Other Charges: Aside from the typical costs associated with running an investment account, there can also be some additional fees that are applied. For example, initial sales loads or charges for transferring part of your account from one option to another may apply. Market Value Adjustment Charges: When purchasing a variable contract, you should be aware that it may come with a Market Value Adjustment (MVA). This could have an impact on the account value, cash surrender value, and/or death benefit value when withdrawing money from the annuity. Generally speaking, when interest rates are lower than what was paid for the annuity upon withdrawal of funds, the MVA can result in additional cash available from your policy.

The Death Benefit in a Variable Annuity

When investing in a variable annuity, you can be secure knowing that it includes a death benefit. Should the worst happen and you pass away during the accumulation period, beneficiaries will receive either part or all of your annuity’s value in a lump sum or subsequent payments over a period of time.

The death benefit usually amounts to the account value or the minimum guaranteed surrender value; whichever is greater.

Sadly, in the event of someone’s death, after they have begun to receive regular payments (annuitize), their designated recipients may get nothing or something depending on which annuitized income payout option was selected.

For those seeking extra security, variable annuity products offer an increased death benefit for an additional cost. This death benefit would provide guaranteed funds should the annuity run out of money.

Let’s Talk about Your Retirement Plan

Learning about and then choosing the right investment plan for your retirement can be confusing and frustrating. We invite you to speak with an insurance and annuity specialist on the LifeInsure team.

Feel free to call us at 866-868-0099 during normal business hours or contact us through our website at your convenience. 

President at Intramark Insurance Services

In my 20+ years as an independent life and disability insurance broker, I have personally assisted thousands of clients with their life and disability insurance needs.

I believe that when people shop for insurance (or anything else, for that matter) on the Internet, they are looking for a simple, non-intrusive, non-pressure method of doing so.

I strive to treat my prospective clients with the utmost respect and I believe an educated prospect can make the right decision without sales pressure.

Being independent, I represent many highly-rated insurance companies and, because I am not beholden to any one insurance company, my focus is to find the right company and policy for each individual client.

Richard Reich

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