Fixed annuities may not be the best option for everyone and might cause you to miss out on better opportunities...
fixed annuities: the Right band-aid
by John Brummitt
As the market seesaws back and forth, many people are pulling their investments out and locking them into more secure, fixed rate options. During the first three months of 2009, fixed annuity sales skyrocketed 74%, according to research association LIMRA. Fixed annuities, however, may not be the best option for everyone and might cause you to miss out on better opportunities down the road.
Fixed annuities are similar to 401(k) s, IRAs, and 403(b) s. They allow for tax-deferred saving, and when you reach retirement age, you can choose to receive your benefit as a monthly payment over a certain number of years, as a guaranteed lifetime payment, or as a lump sum. One benefit of a fixed annuity is not available with other retirement options. These annuities have no contribution limits. They are very helpful for people close to retirement who need to stockpile funds. To put it most simply, these annuities should be used in addition to your retirement plan, not in place of it.
Fixed annuities do have some major disadvantages. The biggest is the lost opportunity for larger growth when the economy is good. Fixed annuities are also subject to hefty fees. Since fixed annuities are sold primarily through insurance companies, agents have to be paid. The consumer is charged a sales commission when purchasing the annuity.
Fixed annuities also have exit fees that limit what you can do with your money. Usually, the exit fee is 7% of your total balance for the first year (although it can be as high as 20%). The fee decreases a percent each year for 7 to 8 years or until it reaches zero. Some fixed annuities also charge an annual fee for holding the contract. In addition, there is a 20% tax on the funds you withdraw and a 10% early withdrawal penalty for those under the age of 59 ½, courtesy of the IRS.
On the other hand, earnings can be a little tricky, so make sure you read the fine print. Many fixed annuities offer “teaser” rates of 5 or 6 percent for the first year. After that, the rate is adjusted annually with the minimum being around 2%. This sounds good when everyone else is in the negative. But in order to guarantee the 2%, you have to give up the large gains when the economy is good. With fees locking you in for at least 7 years, the fixed annuity is not a smart option if you have more than 5 years until retirement.
Immediate annuities, like the one offered by the Board of Retirement, operate differently. They deliver the same payment options when receiving your benefits, but instead of delaying your payment until a later date, the payout begins immediately when you enter the contract.
Immediate annuities work the same as fixed annuities on the benefit payout side but allow you to avoid being locked into a fee-heavy fixed annuity as your funds grow. Most immediate annuities operate on a fixed interest rate. The Board of Retirement offers a 5% fixed rate with their annuity options.
By leaving your funds in retirement accounts subject to the ups and downs of the market, you can see greater returns on your investments. When the time is right, convert it to a fixed rate immediate annuity to guarantee a steady rate of return in your retirement years when stability is more important than growth.
No matter where you invest your funds for retirement, it is always important to research your options to find out what is best for the long term. If the stock market is too frightening, consider investing in long term CDs, which do not offer tax-deferred earnings but have fewer restrictions than fixed annuities.
Free Will Baptists have two additional options for secure investing: the FWB Foundation and the CELF program offered through Home Missions. Even better, look at investing in short- to mid-term corporate and municipal bonds, which allows tax-deferred earnings. Keeping your options open will benefit your nest egg more than securing it too early because you fear immediate losses.
For more information about fixed annuities visit money.cnn.com.
About the Writer: John Brummitt is business manager for the Free Will Baptist Board of Retirement. A 2004 graduate of Free Will Baptist Bible College, John began working for the Board of Retirement in the spring of 2006. Learn more about the Board of Retirement at www.boardofretirement.org.