Don't Annuitize Your Dreams

Hey there Money Saver! Welcome back to another week of How to Save A Buck, where we explore ways of saving money in personal finance, credit cards, and investing! Check out my archive here!

Tired of stock market rollercoasters?

Worried about outliving your savings?

With their promise of guaranteed income, annuities sound like a retirement dream come true. They can offer guaranteed income, death benefit protection, and less risk than stocks.

As a former registered securities professional, annuities were available to many older-generation investors. They have similar characteristics of fixed income, and some annuities can pay out income streams for the remainder of your life.

Sounds great, right?

But before you jump into this seemingly safe haven, let's unravel the truth…annuities are often riddled with pitfalls that can leave your financial future feeling more like a nightmare.

What the hell is an annuity anyway?

An annuity is an agreement to deposit a large sum of money with the insurer that they’ll invest on your behalf and then return to you through regular repayments. This is an insurance product and designed to prevent losses for the investor.

There are 3 main types = Fixed, Variable and Indexed. Without getting too much into the weeds, these all offer some sort of payout to the insured, either immediate or deferred.

Guaranteed Income? Sign Me Up!

True! Some annuities, like the fixed kind, offer a guaranteed income stream in retirement, which can be attractive for people who prioritize predictability and want to avoid market fluctuations. This appeal is especially strong for those nearing retirement who want to ensure a steady flow of income.

Some annuities also offer a Death Benefit which may continue payouts to your loved ones in the event of your death. Combine this with the perceived lower risk that annuities offer, and signing up may be a consideration.

But, let’s return to being the investigative investors that we are here at How to Save a Buck. Because annuities may take more from you than you wish.

High Fees Can Eat Your Growth

Imagine investing $100,000 in an annuity at age 60 with a 2% annual fee. Over 20 years, those fees eat up a whopping $40,000! That's money that could have been compounding in the market, potentially growing your nest egg even more.

Remember, fees are like silent killers in your investment journey – they silently chip away at your returns. We like to stay away from high-fee products!

Limited Upside, Locked-in Downside

Annuities often cap your potential gains, while inflation erodes your purchasing power (and we all know the dangers of inflation from the past couple of years). In simpler terms, your guaranteed income might feel like shrinking pennies as the cost of living rises. Additionally, early withdrawals come with hefty surrender charges, potentially trapping your money when you need it most.

Check out the below graph of an Indexed Annuity vs the performance of the S&P 500 and a bond index.

Some of these annuities are capped on the upside. If the index goes up 20%, you may only get 5% upside. Plus, annuities do not take into account reinvested dividends nor are you investing in anything. Remember, this is an insurance product.

The "Death Benefit" Gamble

Remember that death benefit we mentioned? Well, some annuities lure you in with this benefit, promising your loved ones a payout.

But here's the catch: if you die younger than assumed, the insurance company may pocket most of your invested money. It's essentially a bet on your mortality, and the odds are rarely in your favor.

Complexity is the Enemy of Clarity

Annuities come in a dizzying array of types, each with its own set of terms, conditions, and fine print. Understanding them requires deciphering complex legalese, which can be overwhelming. This can lead to costly misinterpretations and unsuitable choices.

Alternatives Abound

Don't let the fear of market volatility push you towards the limited returns and high fees of annuities. Consider building a diversified portfolio with low-cost index funds and ETFs. These offer broad market exposure, potentially higher returns, and greater control over your money. Remember, diversification is key to mitigating risk and maximizing long-term returns.

Do Your Research, Ask Questions

Before making any investment decision, especially one as significant as an annuity, do your research! Don’t simply listen to the guy on TV spouting how wonderful annuities are. He’s selling them!

If needed, consult a fee-only financial advisor who prioritizes your best interests, not hefty commissions. Ask tough questions, understand the fees involved, and compare annuities to alternative investment options.

Annuities might offer a false sense of security, but they often come at a steep price. They offer some very high commission rates to those who sell them. Invest wisely, diversify your portfolio, and build a retirement plan that truly empowers your future, not one that binds it.

Besides, most of us have enough nightmares anyway…

Save On,

Chris