The Pros And Cons Of Annuities In Your Diversified Portfolio

By Author: Paul Sutherland
Total Articles: 13
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"So what do you think of annuities?" This is a typical question that is normally heard about three or four times a year, but in the past two years, with the market volatility and the fear that goes with it, that question has cropped up more and more. The reason being is that fear sells. And when annuity salespeople are rampant in the market touting these products and promising that they offer "guarantees" and "higher rates of return," people start to take notice because financial planning is so important.

Types of Annuities

There are various types of annuities, each with different benefits, depending upon where the assets are invested and when payments begin. A "fixed" annuity, for example, provides a specified rate of interest for a period of time, while a "variable" annuity offers greater opportunity for growth but also comes with higher risks. Other types include "indexed" annuities, "deferred" annuities, "single premium" annuities and "flexible premium" annuities. Keep in mind that the cost of these products often is directly proportional to their complexity - the more complex, the more money someone will pay ...
... for the product and, typically, as happens with complex products, the less a customer will understand what he or she is buying.

Annuities are expensive, have potential negative tax consequences, and are complex and confusing. People who own annuities often cannot answer general questions about them. Without getting into to all the details and nuances of the different types of annuities, the following are some of the pros and cons of owning annuities in your portfolio.

Pros to owning annuities:

- An immediate lifetime annuity contract can guarantee periodic payments for life (main risks are inflation and the credit-worthiness of the company)

- Provide an option - compared to CDs - for those who are risk-averse and don't want to risk losing part of the savings (fixed annuities still have credit and inflation risk)

- Provide a steady source of income

- Allow investments to grow tax-deferred (qualified and non-qualified annuities)

- No restrictions on who can invest (anyone can purchase a nonqualified annuity)

- Can be customized to fit your needs

- The sum value of some annuities are guaranteed to be at par or greater than the value of the amount invested (variable annuities - this benefit usually comes at a very high cost)

- Are backed (in some cases) by state guarantee funds, so if the company cannot pay, investments may not be lost (vary by state)

Cons to owning annuities:

- They are very expensive! I haven't found one client who wasn't completely shocked when we pointed out the fact they were paying (in most cases) between 2.5% and3.5% per year for their product

- Offer (mediocre) insurance coverage (one of the biggest selling points)

- Investment options are restrictive to mutual fund subaccounts that are often very expensive on their own (variable annuities)

- A big selling point is the tax-deferred savings, yet I find other retirement plans (especially employer-sponsored 401(k) plans) a much more attractive, less costly, less complex, simpler means of funding for retirement

- Lack of liquidity - funds are often tied up for six to eight years and are subject to a sizeable "surrender charge" if withdrawn early

For retirees, an annuity offers an assurance of a stream of income for life or for a specified period of time. For those who fear the potential loss of their money due to poor investment choices, that "guarantee" can be attractive. Keep in mind that that while the annuity income can look big, a good portion of the annuity's income is a return of principal. The problem with buying into this (and paying too much for that guarantee) is that there are numerous other options that are typically more flexible and suitable that should be explored. But in the end, if having an annuity will help someone sleep better at night and bring them peace of mind, then a diversified portfolio manager at FIM Group can help find low-cost/low-load products that do not, for example, charge surrender fees or have very low expense charges. There are a handful of good products on the market, and FIM Group can help provide the due diligence before buying.

Article Source: Whyisfinancialplanningimportant.com