What are the pros and cons of annuities?


Annuities are typically considered a very safe vehicle of investment because of the guaranteed return and tax benefits. Still, there are some issues to consider before you start looking for an annuity to buy.

Advantages of Annuities

  • With annuities, the regular income (which can last a lifetime) and interest rates are guaranteed, which gives the owner a sense of security.
  • The annuity buyer is allowed to invest in the market while at the same time mitigating risk. In most cases, within a variable annuity, the annuity owner is guaranteed death benefits of certain annuitization amount. This makes variable annuities a very attractive financial vehicle to people who are not afraid of risky investments.
  • Annuities are the best option for people who would like to receive lifetime guaranteed fixed monthly income when they retire. Insurers guarantee that annuities can never be outlived.
  • An annuity builds a cash reserve wherein principal and interest accumulation is guaranteed.
  • The interest rate of an annuity is not subject to tax until it is withdrawn or received as ordinary income.
  • Annuity buyers can specify when to start receiving funds from the annuity as income, thus deciding when to be taxed.

Annuities - Disadvantages

  • Receiving a large lump sum from an annuity can be particularly burdensome tax-wise. Annuities are not subject to tax, only when not withdrawn from or received as an income. However, if the proceeds are annuitized, the tax consequences can be mitigated.
  • If one decides to withdraw accumulated interest before the age of 59 and a half or disability, a 10 percent penalty tax is imposed on the funds.
  • If the annuity holder decides to drop the annuity in its early years, they will lose a lot of money. Management fees, mortality charges and surrender charges run very high in the very first years of an annuity.
  • When the annuity holder receives income from their investment earnings, the funds received are taxed at the owner's ordinary income rates.
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