Make Your Own Pension with an Annuity

If you have been reading up until now, you know that I started this blog talking about how a friend of mine got me to buy an annuity to protect my retirement savings. I had heard of annuities before, but didn't really understand them. Thus, I have done much reading lately and this is what I learned.

An annuity is a savings fund that you can build just like an IRA or a 401k. You buy them through a life insurance company which gives protection of your investment. Some have fees involved while others do not. The traditional annuity would let you save money, have it grow, and then, when you retire, you can have it pay you money each month for the rest of your life. At least, that is what I thought they were and then I did some more research.

Three things need to be decided before you sign up.

How do you want to put money in it?

How do you want to grow?

How do you want to take money out?

Putting money in can be either one big amount like rolling over an old IRA you have been watching shrink or maybe some CDs you have been praying the Fed will allow growth over 1%. Otherwise, you can set up a payment plan similar to your IRA. If you want it pre-tax, it can be a traditional IRA or if you want after tax money, make it a Roth. Both are subject to limitations, which I won't go into here. And finally you can start with a large sum and then continue to put money into it.

Growth depends on how much risk you want. The choices are fixed, variable and indexed. Fixed has a set rate that it pays and never changes. Variable lets you put your money into mutual funds and other investments. Indexed pays interest based on the return of one or more market funds like the S&P 500. Variable annuities carry the risk of market changes so you could end up with a loss, unless you have a rider that maintains your balance at the highest market level and then pays interest when the market is down. That is what I have. It is a bit expensive, but it is giving me such a good return, the fees are minimal by comparison.

Indexed annuities come in all sorts of variations, but have more flexibility at taking money out without having to annuitize. If you do that, most will stop growing and pay you something every month until you die, if you so choose.

Have I lost you yet? If so, be sure to leave a comment in my blog and I can respond. Basically, there are many variations to an annuity. I prefer to buy the ones that guarantee growth and protect me from market variations.

My annuity is a variable deferred annuity with a minimum return. If I choose to annuitize it some day, I can get a life payment. Should I die before my wife does, she will continue to get payments until she goes. I rolled over my money from an IRA that was previously a rollover from my 401k's I had built over the years in various jobs. Since the money is from a pre-tax savings plan, I will have to pay taxes on the money some day when I take payments from it. With that, I have introduced a number of terms that I will explain.

For receiving payment some day, there are two basic types of annuities; immediate and deferred. Immediate annuities are usually started with a single large payment. Deferred annuities multiple payments over a number of years, similar to a 401k or they can be funded with one single payment. The idea is to build up a fund that will some day pay you money to live on for a certain period of time. Later I will discuss the many ways you can receive payments.

One final benefit to annuities is there is a death benefit. Should I die, the insurance company guarantees my beneficiaries a certain amount.

I wrote earlier about the four cornerstones of a good investment should include Growth, Safety from market changes, Tax Advantages and Protection for my family. For my annuity I get fantastic growth. In just a year and a half I have grown 20% so I am happy. Since I have the rider to pay me interest when the market drops, I have safety. The tax advantage is based on how I saved in the beginning. Since I rolled my IRA money over to it, I have a tax-deferred plan. As such, I will have to pay taxes as I take money out. And then finally I have the protection for my family should I die.

All in all, I think it is much safer to put my money into an annuity. But there is another solution. If I were younger, I could have done something else. I could have funded a permanent life insurance policy and taken all my growth out tax-free. In my next blog I will talk about how to do that.