Annuity Strategies: The Truth About Generating Cash Flow with Annuities
Are you interested in knowing the truth about generating guaranteed cash flow with annuity strategies? Learn about the benefits and drawbacks of annuities, as well as some annuity strategies that will help you create guaranteed cash flow. Are annuities the unsung heroes of guaranteed retirement income flow, or are they just another intricate financial product that’s more trouble than it’s worth?
Join us as we crack open the world of annuities. We’ll be discussing how these financial tools, often misconstrued as a bad choice, can actually work in your favor to provide a stable income stream during your retirement. Hold on to your hats as we dissect the differences between variable, fixed, and fixed index annuities, revealing the various fees that come with each type.
Annuities can be a great way to secure your financial future – but make sure you understand the pros and cons of annuities (fixed annuities, deferred income annuities, single premium immediate annuities, and variable annuities) before signing up.
Tune in, whether you’re an annuity advocate or skeptic, and let’s debunk the myths together.
Table of Contents
What is an Annuity?
Annuities are a lesser-known insurance product that can provide cash flow in a way that’s guaranteed. These are typically intended for income later in life. To buy an annuity, you can pay a lump sum or in monthly premiums. That sum then earns interest and distributes an amount of monthly or annual income either for a specific term or for the rest of your life. This is why it’s generally a product for retirees.
In other words, you can give the insurance company money, which is guaranteed to grow as outlined in the contract. After that accumulation phase, the company then distributes your account as income to you over your specified time period.
This can be beneficial in a volatile market when you don’t want to lose money in your portfolio.
Immediate Annuities vs. Deferred Annuities
When you purchase an annuity, you an either choose to receive income immediately, or you can defer that income to a later time. If you’re 75 and want an income stream now, you might choose an immediate annuity. However, a deferred annuity might be beneficial if you come into a windfall and don’t yet need an income. You can then specify at hat age you’d like to start receiving payouts.
If you choose to go with a deferred annuity, the insurance company may incentivize you to keep your account with them by offering step-up credits. If your annuity is tied to an index and doesn’t increase that year, you may get a step-up credit if you don’t take any income that year. This is meant to encourage you to keep your annuity in place, rather than liquidating it and taking it elsewhere.
Annuity Strategies for Guaranteed Cash Flow
[05:16] “Not only [can] having annuities enhance your equity portfolio, your investment portfolio, but it can also enhance the happiness of how a person spends their retirement.”
The advantage of an annuity is that you can sleep at night, knowing that you have a guaranteed income in retirement. There are, of course, many types of annuities with their own advantages and disadvantages. If you do choose to purchase an annuity, it’s important to have a grasp on what’s available that fits with your existing portfolio and income needs.
Below are just a few examples of annuities.
The first type of annuity is a fixed annuity, which means it has a fixed interest rate upon purchase. It lasts for a designated time period, but it can be renewed. For example, if you buy a fixed annuity for $100,000 at a rate of 5.4%, you’re guaranteed to earn that rate for the stated period of time in your contract. This does compound, so you’re getting an increasing volume of interest each year. This rate won’t change unless the contract specifies that it may change under a certain period or circumstance.
Fixed Index Annuity
This type of annuity is becoming increasingly popular right now, because it’s actually fixed to an index. Most commonly, it’s fixed to the S&P 500. With this type of annuity, you’re guaranteed not to lose money. So if the S&P or other index is positive over a given year, you’ll get a percentage of that. If the index is negative, nothing happens. The exact calculations are of course more complicated, yet you can count on not losing money with a fixed index annuity.
On the flip side, this also means your “upside” is limited. So you’re not going to make 20% if the index makes 20%. This is how the insurance companies are able to afford not to reduce your balance for a loss.
Cons of Annuity Strategies
While there are many advantages to annuities, it’s important to be aware of the cons as well. One major con is that because the income you create with an annuity is designed to be paid over a specific time period, it’s not very liquid. If you want to pull more money than the insurance company has decided to give you, you can’t do that. The reason you can’t do that is because the insurance company either designates an income schedule based on the term you set, such as 10 years of income, or by actuarial calculations if you want “income for life.”
So what happens if you buy an annuity and die? Well, that’s one of the costs of an annuity. The insurance company generally gets the remaining balance (although there are some instances when they may pay some to heirs). While this can be a con, it’s also the cost of doing business. And in most cases, the insurance company is calculating your income so that if you live, you pretty much get to use it all.
If you have a Fixed-Index Annuity, another con is that you might not get the same returns as simply investing on your own. The problem is that you don’t know what the market is going to do, so it really is a gamble. You may find that your annuity is capped at 7%, and the market keeps earning 10%. Of course, things can always take a turn, and you might be glad you’ve got a 0% floor. Ultimately, it’s up to you and what you’re willing to risk. But if peace of mind is your goal, an annuity can be worth it.
Why Buy an Annuity?
[36:01] “The emotional reason why people would do this is for the certainty of this. The reason they wouldn’t want to do it is because they are afraid that they would buy it, walk out of the insurance company’s office building, and then get hit by a bus so that nobody ever gets paid.”
Ultimately, an annuity, like a life insurance policy, is a trade-off between cost and risk. If you want the peace of mind that you’ll have an income stream for life, the trade-off is that you give up some liquidity. This can be really powerful, and allow you to structure and use your remaining assets in a more advantaged way.
Annuities won’t be for everyone, yet they can be a critical part of your distribution phase in retirement.
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