One of the most common issues I come across in many of my consulting relationships has to do with questions surrounding retirement, specifically:
- How much should I be saving?
- How much can I save? (Ie, what are the legal and tax restrictions?)
- What kind of retirement income do I want, or need?
- What is the best retirement package or plan for me and my family?
For this reason, I am always interested not only in learning more about this subject myself, but in finding professional referral sources I can recommend to my clients with confidence. For that reason I asked investment professional Stephen Dellelo, President of Massachusetts-based Retirement Income Strategies, LLC, to weigh in on this issue. Below Stephen discusses one of the more popular retirement options: annuities. Thank you, Stephen, for this valuable and timely information.
By Stephen Dellelo, President, Retirement Income Strategies, LLC
Every day I meet with clients, many of them in the dental industry, who have three things in common: they want to 1) grow their money, 2) protect their money and 3) create retirement income they do not have to worry about out-living. I believe millions of Americans would describe their retirement goals in similar terms, which helps to explain the popularity of annuities.
So let’s look at annuities in more detail, with the goal of understanding:
- what they are
- the different types that are available
- how they work.
An annuity is a contract between the policy owner and the insurance company. The contract contains the terms and conditions which determine the right, benefits, provisions, restrictions and responsibilities of each party.
Note: The following explanations are not designed to be exhaustive, but informational. It is important to work with a qualified financial professional when planning your retirement.
Fixed annuities offer tax deferral, the ability to create income, a long-term horizon for the owner, and the potential for a competitive rate of return. The insurance company pays the policy owner a fixed interest rate for a stated period of time. When the period ends, the owner can receive the account value, elect to receive income, or renew at a new interest rate. With fixed annuities, assuming the policy owner does not cash in his or her policy prematurely, there is no risk to the owner's principal.
There are generally two additional types of fixed annuities:
Immediate annuities - The policy owner gives the insurance company a sum of money and the company pays the owner a stream of income payments.
Index annuities - These can provide the potential for higher interest than traditional fixed annuities by linking the interest earned to the performance of a benchmark index, often the S&P 500. In marketing terms, index annuities give "some of the upside potential of the stock market, but without the downside risk." While there is no market risk, substantial penalties for withdrawing money before the end of the term, and a 10% penalty for withdrawals prior to age 59 1/2, could lead to a loss in principal.
Annuities have many benefits, two of which we will focus on here: growth and income.
Fixed annuities have lower relative growth potential but no investment risk. Index annuities fall in the middle in terms of growth potential, but have no risk to principal. Which type is suitable for you depends on your risk tolerance, time horizon, asset mix, return expectations and financial goals. There is no "one size fits all solution".
The popularity of annuities is frequently attributed to their ability to create guaranteed* lifetime income, a feature unique to annuities. They can do this in a couple different ways:
First, every annuity can be turned into a stream of income payments for a period of time, called annuitization. Annuitization has several benefits, most notably the ability to create guaranteed income. There are limitations, however. Generally, an individual cannot change their mind once they have begun receiving payments.
Many index annuities address this lack of flexibility through a feature called an income rider. These riders are used to create guaranteed* lifetime income without annuitization. They allow the policy owner to create guaranteed* income for life, just like with annuitization, but with the added flexibility to stop and start payments, or to receive any remaining account value if they no longer want or need the income.
Of course, income riders come with their own limitations, including how much income can be withdrawn under the provisions of the rider. But the value is in helping create a predictable, guaranteed* steady stream of income, while keeping the policy owner in control of their own money.
No product is suitable for everyone, and annuities are no different. But many millions of pre-retirees and retirees have found tremendous value in the benefits of annuities, including growth, guarantees*, and the ability to create a guaranteed* lifetime income.
As with any important financial decision, every individual must understand what they are buying, why they are buying it and where it fits into their overall financial plan. For further information on this topic please contact Stephen Dellelo, Investment Professional, at 508.819.0350, or email firstname.lastname@example.org.
Securities and investments advisory service offered through NEXT Financial Group Inc. Member FINRA/SIPC, Retirement Income Strategies is not an affiliate of NEXT Financial Group, Inc.
*Guarantees are based on the claims paying ability of the issuing insurance company.