Reasons NOT to Buy an Annuity

 

When it comes to individual retirement planning, annuities are hot products. Millions of annuities have been sold and each year billions of dollars are deposited with the insurance companies that sell them. This means annuities must be good for the insurance companies, but what about being good for you? Just because everyone else is doing it doesn't mean you should be talked into buying an annuity. While annuities can play a valuable -- even critical -- role in individual retirement planning, they are not right for everyone. And you, not some salesperson, should be the one to decide if an annuity is right for you. 

Another reason to be diligent when considering the purchase of an annuity is that over the years, the simple concept of the fixed income annuity has become complicated and even convoluted. This has resulted in increased costs and confusion for the consumer and higher profits for the insurance company.  

Here are some of the reasons why you may want to think twice before you buy an annuity.

1. Don’t buy an annuity if you have successful experience managing your own money.

When you buy an annuity, you are basically asking an insurance company to take over and manage your accumulated assets and retirement funds in exchange for crediting interest on your funds and ultimately providing you with a guaranteed monthly income. Annuities are highly profitable for insurance companies so they are are more than happy to do this, but, of course, you will be charged initial and ongoing fees for this service. So, if you have experience and success managing your funds on your own and can convert your assets into an income, there is no reason to buy an annuity.

2. Don’t buy an annuity if you’re sure you have accumulated sufficient assets to meet your income needs during retirement; no matter how long you may live.

It took a lot of time and hard work to accumulate your retirement assets, but it is fairly easy to invest and “spend-down” these assets in order to provide necessary income during retirement. For instance, you could invest your money in mutual funds and withdraw a certain amount each month to cover living expenses. As long as you have accumulated sufficient funds so that you will not be concerned with the uncertain vicissitudes of the stock market -- and are confident that you will not run short of funds, no matter how long you live -- there is no need to buy an annuity.

A big part of an annuity is a guarantee from the insurance company that you will continue to receive the same income for as long as you live, even if the stock market tanks or your bank fails. But you need to understand that if the stock market does well, the insurance company will benefit and in most cases your income will not increase. However, the insurance company will charge a large fee to make this guarantee and sometimes even keep any remaining funds if you die before the amount deposited has been fully paid out. So, if you are confident that you have sufficient funds to last during retirement and don’t need an insurance company sending you a guaranteed monthly income, there is no reason to buy an annuity.

3. Don’t buy an annuity if, after your death, your spouse is capable of managing the remaining assets and will not need a continuation of the income you were receiving.

An annuity can be structured to provide what is called “joint-and-survivor” income. This means that should the primary annuitant die, the surviving spouse would receive a portion or even all of the income continued for the balance of their life. However, buying an annuity with this feature will reduce the initial amount of income and may be less than you need in retirement. If you are sure that you will not be the first to die or are confident that your spouse will have sufficient assets and income for the balance of their life, there is no need to buy an annuity.

4. If your retirement plans may change.

One of the big selling points for a fixed annuity is that it is actually an insurance contract, and as such, it is based upon guarantees made by the insurance company. Unlike investments, when you put your funds in an annuity, the insurance company guarantees you will not lose any money (of course, you won’t make much, either), and once you start to draw down annuity income in retirement, there is a guarantee the income will never be reduced or stop.

Guarantees are good -- especially in retirement -- but with that security comes inflexibility. Once you put money in an annuity and begin to receive income, you have given control of your funds to the insurance company and, should your circumstances change drastically (such as a major illness), there are only a few (very expensive) options available to respond to those changes. Because of this, you may not want to buy an annuity.

5. Don’t think it will be the be-all and end-all to retirement challenges.

Change never gets the memo when you retire. Even though you may have retired, change keeps right on working. As likely as not, you could spend 10, 20 or even more years in retirement. That gives change a lot of time to impact your life and plans. No one knows what those changes will be, but it is important to be in a position to respond to them.

By their very nature, annuities are “fixed” and are intended to be the antithesis of uncertainty and change. When you buy an annuity, you know what you have and what you can expect. That is the characteristic that makes an annuity such an important part of a retirement plan, but it also inhibits your ability to respond to change.

As a result, don’t buy an annuity thinking that it will solve all your challenges during retirement. Even though an annuity producing a guaranteed income can be a solid foundation for a retirement plan, it is not a good idea to put all your funds into an annuity. It is always prudent keep some of your assets aside so there is flexibility in the event of an emergency and even for the option of growth.

What's the moral of the story?

Annuities are a valuable tool intended to help you build a secure retirement plan, but before you buy, take the time to make sure you understand what an annuity can and cannot do, and be sure it is a tool you need and can use appropriately.

(This article was previously published in the Forbes.com. The author is Bob MacDonald, founder of LifeUSA and retired Chairman and CEO of Allianz Life of North America.)