Newsletter | October
Annuities as Part of Retirement Planning?
For many, IRAs and employer-sponsored retirement plans such as 401(k) plans are the preferred retirement saving vehicles. However if you've maxed out your contributions in these retirement vehicles, are over the income level thresholds, or have a lump sum that you’d like to invest for retirement, an annuity may be a good option for you.
What is an annuity?
An annuity is a tax-deferred investment contract. Annuities vary, but in most cases you invest your money, which can either be a lump sum or a series of contributions, with an investment or life insurance company that sells annuities. In exchange for your investment, the annuity issuer promises to make payments to you or a named beneficiary during your retirement.
What are the distribution options?
- Surrender the annuity and receive a lump-sum payment of all of the money invested and accumulated.
- Receive payments from the annuity over a specific number of years. If you die before this period is up, your beneficiary will receive the remaining payments.
- Receive payments from the annuity for your entire lifetime. You can't outlive the payments, but there will typically be no survivor payments after you die.
- Receive payments for the longer of your lifetime or the time period chosen. If you die before the period is up, your beneficiary will receive the remaining payments.
- Elect a joint and survivor annuity so that payments last for the combined life of you and your spouse. When one of you dies, the survivor receives payments for the rest of his or her life.
If you surrender the annuity for a lump sum, your tax bill on the investment earnings will be due all in one year which will push you into a higher tax bracket. The other options on this list provide you with a stream of income. Part of each payment is a return of your principal investment. The other part is taxable investment earnings.
What are pros and cons of investing in annuities?
Pros:
- Investment earnings are tax deferred as long as they remain in the annuity. There are no income taxes on those earnings until they are paid out.
- Annuity's death benefits don’t have to go through probate court.
- Annuities can be a reliable source of retirement income and there is flexibility in how that income is received.
- There are no income tests or other criteria to invest in an annuity.
- There are no annual contribution limits.
- There are no required starting ages for taking distributions.
Cons:
- Payments are based on the claims-paying ability of the issuer.
- Contributions to nonqualified annuities are made with after-tax dollars and are not tax deductible.
- Once you've elected to start receiving payments, you usually can't change them.
- The annuity issuer may impose a surrender charge if you withdraw your money before a certain number of years after your original investment.
- There are other costs when you invest in an annuity such as annual fees, investment management fees, or insurance expenses.
- You may be subject to a 10 percent federal penalty tax if you withdraw your money from an annuity before age 59½.
- Investment gains are taxed at ordinary income tax rates, not at the lower capital gains rate.
At Roth CPA & Associates, we don’t sell annuities, but we’d be glad to give you some independent advice on whether an annuity might be right for you. If you have questions, give us a call today!