Annuity as retirement savings

Annuities are another retirement savings alternative that you may want to consider. Annuities are insurance company products that let you accumulate tax-deferred earnings and then convert your account value to a source of income from payments made to you by the insurer or annuity provider.

Overview

You pay premiums, or cash payments, to the insurance companyeither in one lump sum or in regular payments over time. You usually cant withdraw money without penalty before you turn 59.

Annuities are available in many varieties. Some people use them to accumulate assets for their dependents, but most frequently theyre used to save for retirement and can provide a good way to help guard against the risk of outliving your money. A third alternative is to buy an annuity as a source of immediate income.

Deferred annuities

• Offer a tax-advantaged way to save for retirement
• During an accumulation phase, you put money into the contract
• When youre ready to retire, your account value can be converted to a stream of income during a payout period or you make some other withdrawal arrangement

Immediate annuities

• Provide income that begins as soon as you sign the contract and pay the premium
• May be appropriate if you want to receive income as you would from a pension plan
• You purchase the annuity with a lump-sum, such as a pension payout, proceeds from the sale of a business or an inheritance

Annuity Choice

There are also a number decisions you must make as you are choosing an annuity, including deciding between fixed and variable annuities and between qualified and nonqualified annuities.

Whether you choose a variable or a fixed annuity depends on the return you seek and the amount of risk you are willing to take.

Variable vs fixed

If you choose a variable annuity, the rate at which earnings accumulate in your account depends on the investment performance of the investment alternatives, called annuity funds or subaccounts, you choose from among those the annuity offers. Youll earn more when theyre doing well, and less when theyre doing poorly. A fixed annuity, on the other hand, offers you the same rate of return each month for a specific term.

Qualified vs nonqualified

You can also choose an annuity as part of a qualified retirement plan, such as an employer plan, choose annuities for your IRA or buy a nonqualified annuity.

A qualified annuity is one that you purchase through your 401(k), 403(b) or other employer plan. Your contributions are deferred from your salary and are subject to contribution limits and withdrawal requirements.

An individual retirement annuity resembles a traditional IRA in most ways, such as contribution limits and withdrawal requirements. The difference is that you purchase an annuity rather than CDs, mutual funds, individual securities or other investments with the money you contribute to your account. You may qualify to deduct your contribution when you file your tax return or select a tax-free Roth rather than a tax-deferred IRA.

A nonqualified annuity is one you purchase on your own, often when youve contributed as much as you can to an employers plan or an IRA. Unlike 401(k)s or IRAs, there are no contribution limits and youre not required to begin withdrawals at 70. In this case, you contribute after-tax income, which may or may not be earned income.