One of the main tenets of investing is that no one single investment is right for everyone. Every investment has certain characteristics, risks, and objectives that must match those of the investor, and fixed annuities are no different. Although fixed annuities have become more popular in light of the recent financial turmoil and the carnage it has left behind in retirement accounts, investors should still take care in considering whether they are best suited for them.
As economic uncertainty increases, concerns over financial security mounts causing people to look for alternatives that provide more guarantees and predictability. Currently, more than 50% of pre-retirees fear that their assets won’t generate the income they need for their lifetime. Because fixed annuities protect principal while providing a guaranteed income that can’t be outlived, investors are looking to them for at least a portion of their retirement portfolio. Fixed indexed annuities provide safety of principle while allowing for participation in the "upside" of the market.
Before expending the time and effort exploring specific fixed annuity products, your own situation must be assessed in order to determine if the benefits of fixed annuities may meet your particular needs. Here are five questions you should ask regarding your situation when considering fixed annuities:
Am I contributing the maximum amount to my retirement account?
Fixed annuities do offer the advantage of deferring taxes on earnings until they are received, just as qualified retirement plans, however, contributions to fixed annuities are not tax deductible. As a general rule, you should take every advantage of using your before tax dollars to save for retirement before considering other investments. It is possible to invest in a fixed annuity within your qualified plan. Although you wouldn’t benefit from the tax deferral of a fixed annuity inside your plan, it can add stability to your portfolio and produce a guaranteed stream of income at retirement.
Do I pay the maximum amount of taxes?
If your income is subject to taxes in the higher brackets, you stand to benefit more from the tax deferral of fixed annuities. The deferral of taxes is important because it helps offset the fees and expenses associated with fixed annuities and it enables your money to compound faster. Investors in lower brackets wouldn’t realize the same amount of benefits as investors in higher brackets, so they may be better off in taxable investments.
How much time before I need the money?
An investment in a fixed annuity is for the long term. Although fixed annuities allow access to your funds, the early withdrawal penalties limit your access to 10% of your balance per year. There are also IRS penalties for withdrawals made prior to age 59 ½. More to the point, fixed annuities work best when they are left to work so that the tax deferred compounding can work its full magic. Your time-frame for holding the annuity should be considered.
Do I have enough cash?
If your investment funds are committed to long-term or illiquid assets, you need to ensure that you have enough liquid assets in the event that your circumstances require them. This is especially important after you have retired. Once a fixed annuity is annuitized (converted to a stream of income), your capital is committed to the insurer. It’s always advisable to have at least six to nine months of living expenses set aside in a liquid savings account.
Do I lie awake wondering if I will run out of money in retirement?
Most studies done on the subject indicate that an alarming number of Baby Boomers will fall short of their income needs during retirement, which means they will need to delay retirement or drastically cut back on their life style expectations. Life expectancies are increasing in the face of economic uncertainty. That is keeping some people up at night. Fixed annuities are the only vehicle that can provide a secure, predictable flow of income coming for as long as you live.
Am I getting anxious about losing anymore of my principal investment?
There’s no question that the financial markets have people on edge about the safety of their principal. The last few years has seen record outflows from stock mutual funds in to cash and other secure investments. While it is always advised to have some exposure to the stock market as a hedge against inflation over the long term, physicians need to balance the volatile side of their portfolio with more stable or fixed investments. As the retirement time horizon shortens, physicians are advised to reduce their exposure to risk. Fixed annuities, with their record of safety and their guarantees, certainly could comprise a portion of the low risk side of the portfolio.
The final analysis
If your assessment produced more than one affirmative answer then you may be a candidate for a fixed annuity and it would be worth exploring the different types that are available. Fixed annuities are complex instruments and they include many features that need to be fully understood. And, because they are a long term investment, it is important to go into a fixed annuity investment with eyes wide open. If it is determined that a fixed annuity is right for you, they be one of the best investment you can make.