Variable Annuitiy

Variable annuities are one option for those looking to invest for the retirement years. As a contract, the annuity has obligations for the annuitant or annuity owner and for the financial firm that sets up the annuity. The annuitant agrees to add funds to the account and the financial firm provides a guaranteed minimum income for the life of the annuitant. Choosing a variable annuity depends on how much risk an annuitant is willing to accept.

Fixed Annuity Summary

  • Income payments vary based on the performance of investment sub accounts, including stocks, bonds and mutual funds.
  • Can be purchased as a deferred annuity or immediate annuity
  • Total sales of variable annuities were $140 billion in 2010.

Variable Annuity versus Fixed Annuities

Variable annuities are different from fixed annuities in a few ways. The most important difference is that variable annuities provide a varied income each month based on the changes in the investment portfolio. A strong stock market increases the value and the payments of the annuity. But a weak market reduces the value of the annuity and lowers income payments. Fixed annuities have a stable monthly income that is not affected by the market fluctuations. The income from fixed annuities remains constant thereby exposing the annuity owner to less risk.

How Do Variable Annuities Work

Variable annuities work as other types of annuities do. An annuity is a contract in which a person agrees to pay premiums or periodic payments to fund the annuity. This is known as the accumulation period and lasts for many years if you have a deferred variable annuity. If you choose an immediate variable annuity, you fund the annuity with one large payment.

After the annuity is funded, the financial institution that set up the annuity, invests the money into various financial instruments to increase the value of the annuity. Types of investments include stocks, bonds, mutual funds, and options. It is the underlying performance of these investments that determines the amount of the income payments that are distributed at a later date. The distribution can either be a lump sum, but usually it is spread over the lifetime of the annuity owner.

Who Are Variable Annuities Right For

Variable annuities are a good fit for investors who like some level of risk while investing. These annuity owners also like the potential to make more money or get higher distributions during an market upswing. In most cases people turn to variable annuities because they have already contributed the maximum amount they can to their qualified retirement plans such as Individual Retirement Accounts (IRAs), 401(k) or other pension plans. Most people in this category earn a lot of money each year and are in a high tax bracket. Annuities are a way for these people to increase their retirement income.

Top 5 Things to Consider When Thinking About Purchasing a Variable Annuity

Top 5 things to consider when decided to purchase a variable annuity

  1. Stability of company: When considering a variable annuity you need to find a company that is financially stable to set up and maintain the investments in the annuity. Good investment decisions are crucial to have a variable annuity that earns a good return on investment. Also look for a company with a high credit rating.
  2. Spousal protection benefits: TWhen choosing a variable annuity, you need to consider whether the annuity allows the spouse to be a joint annuity owner. This benefit makes it easier for one spouse to receive the distributions after being widowed.
  3. Fees: When deciding on a variable annuity you have to consider the costs. The various charges include commissions to the broker, surrender charge, and investment management fees. Also a variable annuity incurs more expenses than fixed annuities because the former has a diversified portfolio.
  4. RisksVariable annuities have inherent risk, but with proper management of the invested funds, the annuity can grow in value. Keep in mind that riskier investments put the overall value of the annuity at risk. Consider buying riders that offer guaranteed minimums to reduce investment losses. One example of such a rider is a guaranteed minimum withdrawal benefit or GMWB. This rider protects the annuity in a down market.
  5. An immediate or deferred variable annuity: Once deciding on a variable annuity, the annuity owner has to choose between a deferred or an immediate annuity. A deferred annuity pays out income at a later date, usually at retirement. An immediate annuity pays out an income soon after purchasing the annuity.

Variable annuities are a good choice for those who can handle risk. The monthly income fluctuates depending on how well (or how badly) the investments in the annuity perform. But there are always guaranteed minimums so you will always get a payout. Variable annuities are also more complicated than fixed annuities so make certain you understand how such an annuity fits into your investment plan.