Annuities are financial products designed to offer a steady stream of income, usually for retirees. While they can be a good option for people seeking guaranteed income, the terms and conditions accompanying annuities often contain fine print that could affect your overall financial plan. Here are some key points to consider:
1. Guaranteed Increases
When annuity providers mention guaranteed increases, these usually refer to increases to a benefit base rather than the actual cash value of the annuity. The benefit base is often used for calculating income riders or death benefit riders. It's crucial to note that the benefit base is different from the actual value of the annuity. The guaranteed increase may apply to these riders and not directly to your cash balance. This could affect what would be available to you if you decide to utilize a different investment at some point in the future or what a beneficiary may receive upon your death.
2. Timing Your Withdrawals
When to initiate income from your annuity can significantly impact the amount you receive. For instance, consider an annuity with a $160,000 premium, issued on August 1st, that has a 10% simple interest roll-up rate per contract anniversary for 10 years. If you decide to trigger your income in August, you could be eligible for a $12,000/month payout. However, if you initiate this in July, just before the anniversary, the payout drops to $10,800/month. Waiting for one more month, in this case, offers a higher income, thanks to the 10% roll-up rate applying after the anniversary.
3. Fees Calculated on Benefit Base vs. Account Value
Many people do not realize that the fees for some annuities are calculated based on the benefit base (which often has high guaranteed increased from the insurance company) rather than the account value. If your account value is $100,000 but the guaranteed benefit base is $150,000, a 1% fee would cost you $1,500 instead of $1,000. This means that the real fee being applied to your contract is actually 1.5% and if the contract value continues to underperform the guaranteed rollup rates, you'll continue to see the fee increase as a percentage of the contract value. Understanding this distinction can make a big difference in the net value of your contract and may affect what your beneficiaries are able to receive should you pass away.
4. Death Benefit Payouts
The way death benefits are disbursed can vary between different annuity contracts. Some annuities may require beneficiaries to take payments over a specified period to receive the full death benefit. For example, a $100,000 death benefit might be payable in full over five years but would be reduced to $75,000 if taken as a lump sum. It's essential for both the annuity owner and beneficiaries to understand these conditions to make the most out of the death benefit.
5. Extra Distributions and Their Impact
Many annuities allow for free withdrawals up to a certain point. However, these withdrawals often reduce the benefit base proportionally or dollar for dollar. Let's say you take a $10,000 free withdrawal from a $100,000 annuity. If your benefit base for income or death benefits is $150,000, this withdrawal could reduce it by $15,000 (or 10%, which is the pro-rata calculation), thereby decreasing your guaranteed income, or death benefits by 10% as well.
Conclusion
Annuities can offer financial stability, especially for those looking to secure their retirement. However, it's essential to read the fine print and understand the nuances of the policy. From the timing of your withdrawals to the calculation of fees and the disbursement of death benefits, each detail could significantly impact your financial planning. So before you sign on that dotted line, make sure you know exactly what you're agreeing to.
