A fixed annuity can be a powerful retirement planning tool. In this article, we will go over the basics of fixed annuities. This includes how they work, what benefits they offer, and how to determine if one is right for you.
How a Fixed Annuity Works
A fixed annuity is an insurance product. The insurance company creates a contract between themselves and you, the annuitant. Typically, you will fund your annuity with a lump sum. Once you fund your fixed annuity it will go through two phases.
- Accumulation Phase: During this phase, your annuity will begin to earn the fixed rate that your insurance company guaranteed you. You will be able to watch your policy balance grow substantially from year to year.
- Annuitization Phase: During this phase, you will begin to receive payouts from your annuity. Even though you are taking money out, the remaining balance will continue to grow at the agreed upon fixed rate.
Another piece of terminology that you should be familiar with this the surrender period. This period lasts somewhere between 3 and 12 years. During this time, you will not be able to take withdrawals. If you choose to take a withdrawal, you will be subject to penalties. However, many companies allow you to access a small percentage of income each year penalty free, usually 10%.
Benefits Afforded by a Fixed Annuity
Fixed annuities offer several considerable benefits. These benefits include:
- A fixed annuity can protect your invested principal from the volatility of the stock market.
- It will continue to grow at the agreed upon percentage and it will not drop in value, even if less than favorable things are happening with other investments.
- You are afforded a much higher interest rate than other conservative products, such as C.D.’s.
- It will provide you with a stable source of income.
- You can count on earning a guaranteed amount, that you will later be able to draw from without the fear of losing value due to market conditions.
- A fixed annuity can be funded with qualified or non-qualified money.
- Unlike other retirement accounts, there is no limit on the amount you can put in your annuity.
- Your money grows tax-deferred. This means that you will not have to worry about taxes until you reach the annuitization phase.
Is a Fixed Annuity Right For You?
Fixed annuities are long-term investments. If you are looking for a short-term investment, this would most likely not be the best choice for you. Also, if you are planning on funding your annuity with qualified money, you will need to be able to let the money sit until you are at least 59 ½ to avoid penalties. But this is the case with qualified money, no matter what type of account it is in.
If you are looking for a long-term, low-risk investment, a fixed annuity may just be perfect for you. A qualified insurance agent can help you shop around to find the best insurance company and policy type for your situation. They can also educate you more fully on how fixed annuities work and go more in-depth on their benefits and downfalls. If you meet with an insurance agent that is also a Certified Financial Planner®, you will also be able to see how a fixed annuity works into your retirement plan.
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