Is It Time to Consider Inflation-Protected Annuities?

The guaranteed payments that annuities offer can help protect investors from troubled times, providing the value of the annuity isn’t being whittled away by inflation.

Many economists are worried about inflation. The Consumer Price Index (CPI), a widely used gauge of consumer spending, decreased 0.3% in May 2012, and core inflation (which eliminates volatile food and energy costs) rose 0.2%. For the one-year period ending May 31, 2012, the CPI rose 1.7% and core inflation rose 2.3%. That places core inflation above the U.S. Federal Reserve Board’s target of 2%.

Inflation can be problematic for annuity owners. That’s because the annuity payouts are dependent on interest rate levels at the time the money is invested.

One way to address this problem is to invest in an annuity that adjusts for inflation. Some annuities raise payments based on changes to the CPI; others raise payments by a fixed percentage per year; and still others increase payments only if interest rates rise by more than a certain percentage by a certain date.

While this may be appealing to many investors, there are downsides to inflation-protected annuities. First, inflation protection can add to the cost of the annuity. Second, inflation-protected annuities may offer lower initial payouts. Third, annuities that increase payments when inflation rises often also reduce payments when inflation declines.

Investors may therefore want to consider other ways to address this problem. One option: Consider investing in several immediate payment annuities at several points in time; this allows you to potentially capture different interest rates. Another option: Invest part of your assets in an annuity and part in stocks and bonds.

Of course, deciding which approach makes the most sense for you depends on your individual financial situation and tolerance for risk; we can help you make the choice that’s right for you.

Annuity guarantees rely on the financial strength and claims-paying ability of the issuing insurer. The IRS may also impose a 10% penalty on withdrawals prior to age 59 ½, depending on the circumstances

Fixed Annuities May Provide a Bigger Payout

With a fixed annuity, you make a payment to your insurance company and you then receive a “set” or “fixed” payout. While many investors like the idea of a guaranteed income stream, for others the “fixed” part seems just a little too rigid. But that’s not necessarily the case.

All annuities operate in essentially the same way: You sign a contract with an insurance company. You pay the insurance company, and the insurance company then makes payments to you at regular intervals either for a specified period of time or for your lifetime.

From there, annuities differ dramatically. Some annuities have variable payouts, meaning they’re dependent on the performance of a portfolio of assets. Some investors, particularly those nearing retirement and needing some stability, don’t like the sound of a variable payment. Instead they opt for a fixed annuity, which provides a set income.

A fixed annuity payout may seem meager when the stock market is rising and investors with variable annuities are receiving greater payouts. However, fixed annuities may not be as fixed as they sound. For example, some fixed annuities are now available with payments that rise to adjust for inflation. Other fixed annuities allow an investor’s heirs to continue to receive payments if the investor dies earlier than expected.

We can help you determine if a fixed annuity is right for you. If it is, we will also be able to advise you on the appropriate balance of income and flexibility for your financial circumstances.

Annuity guarantees rely on the financial strength and claims-paying ability of the issuing insurer.  The IRS may also impose a 10% penalty on withdrawals prior to age 59 ½, depending on the circumstances.

Fund Your Retirement Dreams Through Annuities

When it comes to funding your retirement dreams, it’s important to look at all available investment options and then structure a portfolio that provides regular income for as long as you’ll need it. Annuities could be a good option, but how do you know how much to allocate to annuities as compared with other investments?

As you know, creating a portfolio usually involves allocating assets to a mix of stocks (so your assets can keep pace with inflation) and bonds (so you’ll have a steady income stream). You’ll probably also want to have some cash on hand, and you may want to consider an investment in annuities.

To decide how much to allocate to an annuity, you could consider it a part of your bond allocation. That’s because allocating some of your nest egg to an immediate annuity creates a stream of income you can’t outlive, helping you overcome “longevity risk” – the risk that you’ll run out of money before you die.

Ask yourself what you think the stock market will do, and decide what your tolerance is for investment risk. Also consider whether you’re likely to burn through your assets earlier than you’d planned.

A significant allocation to an immediate annuity might be a good option under the following conditions:

·         When the stock market appears to be peaking or in the      

            early stages of a decline

·         When your tolerance for investment risk is low

·         When there’s a high probability you’ll exhaust your assets

           earlier than you wish.

Annuity guarantees rely on the financial strength and claims-paying ability of the issuing insurer.  The IRS may also impose a 10% penalty on withdrawals prior to age 59 ½, depending on the circumstances.

You Can Defer Taxes by Purchasing an Annuity

A major benefit of choosing an annuity as a retirement savings vehicle is tax deferral, which is simply the means by which the payment of taxes on certain assets can be delayed until some future date. Here’s why tax deferral can be beneficial.

Tax-deferred assets, such as investments in annuities, grow untaxed, meaning that interest earned on the investments in the annuity appreciates until they are withdrawn.

That’s called compounding. Compounding is the process by which the money you make from an investment can be reinvested to make even more money. As a hypothetical example, let’s say you have invested $10,000 and it earns interest of 10% per year. In the first year, you will earn $1,000 in interest. But in the second year, you will earn $1,100 in interest. Why? Because not only does your initial investment of $10,000 accrue interest, but so does the additional $1,000 you earned in the first year.

Because your investment isn’t reduced by income taxes every year, you experience potentially higher overall returns in your annuity’s accumulation phase.

It’s also important to note that through tax deferral you may receive a lower tax rate upon withdrawal. Since you probably will not withdraw the assets you’re accumulating in your annuity until later in life (when you may be in a lower tax bracket), you also may minimize the taxes you have to pay when you withdraw your investment.

Your advisor can help you determine if an annuity is a good tax-deferred investment vehicle for you.

The legal and tax information contained in this article is merely a summary of our understanding and interpretation of some current provisions of tax law and is not exhaustive. Consult your legal or tax counsel for advice and information concerning your particular circumstances. Neither we nor our representatives may give legal or tax advice.

Annuities May Help Skirt Retirement Risks

The purchase of a fixed annuity may be a hard sell, given today’s ultralow interest rates. But that doesn’t mean investors who are worried about the negative effect of a volatile market on their savings shouldn’t consider these investment vehicles.

When you buy an immediate income annuity, you essentially skirt two big retirement risks: first, that a market crash will destroy your savings, and second, that you'll outlive your money.

The problem is that insurers base monthly payments on current interest rates. If you buy now, when rates are low, you lock in a lower payout than you would if you bought when rates were higher. So the question is: will a fixed annuity pay you enough?

The answer depends on how much you've saved. While an annuity can protect you from running out of money, it isn't a solution if you haven’t saved enough.

If you are concerned about a market crash or fear you may outlive your money, one strategy is to use a portion of your retirement savings to purchase a fixed annuity that will generate sufficient income to cover your fixed monthly costs – such as housing and utilities.

It’s likely that annuities may soon become more available, thanks to rules proposed by the U.S. Treasury and Labor departments that encourage more employers to offer annuity options in retirement plans. So you may want to give them a second thought.

I or your advisor can help you determine if annuities are right for your and can explain your investment options.