RETIREMENT
Understanding Annuities: The Basics
You've spent years building savings for retirement. The next challenge is figuring out how to turn what you've accumulated into income you can rely on throughout the years ahead.
5-minute read
At its simplest level, an annuity is a contract between you and an insurance company. You provide a payment or series of payments, and in exchange, the insurer provides regular income payments to you, starting either immediately or at some point in the future.
It is important to understand that annuities are not one-size-fits-all financial tools. Because there are many different types of contracts with varying objectives—ranging from principal protection to market-linked growth—finding the right fit depends entirely on your specific income needs and retirement goals.
Why Annuities Matter in Retirement
The traditional pillars of retirement income—such as pensions—have become less common for many workers. As a result, the responsibility of creating reliable income has shifted to the individual. Annuities are unique because they are one of the few financial vehicles designed to provide a guaranteed stream of income that you cannot outlive.
"Retirement isn't only about how much you've accumulated. It's also about creating a plan for how that money will support you throughout retirement."
Not All Annuities Work the Same Way
Fixed Annuities
Fixed annuities are designed to provide predictable interest growth based on rates established by the insurance company, subject to the terms of the contract. They can appeal to people who value predictability and protection from direct market losses.
Fixed Indexed Annuities
Fixed indexed annuities provide the opportunity for growth based on the performance of a market index, while also protecting your principal from market losses. You benefit from market upside (typically up to a certain limit) without the risk of losing money when the market goes down.
Variable Annuities
Variable annuities allow you to invest in various sub-accounts, similar to mutual funds. While they offer the highest growth potential, they also come with market risk, meaning the value of your contract can decrease if your investments underperform.
Features, guarantees, fees, surrender periods and income options vary significantly among annuity contracts.
Protection and Growth: Finding the Balance
When planning for retirement, many people feel they have to choose between keeping their money safe or trying to grow it. Annuities, particularly fixed indexed options, help bridge this gap by offering a middle ground.
The goal isn't necessarily to choose between growth and protection. It's to determine the role each should play in your retirement strategy.
What About Retirement Income?
Most annuities allow you to choose how and when you receive payments. You may choose to let your money grow until you need it, or you may choose a contract that starts paying you immediately. Some contracts even include riders that allow for increased income to help cover unexpected costs, such as long-term care needs.
What's the Trade-Off?
Like any financial product, annuities involve trade-offs. The primary trade-off is often liquidity. Because these are long-term contracts designed for retirement, there are usually limits on how much you can withdraw penalty-free during the first few years (the surrender period). Understanding these timelines is essential before committing to a contract.
Could an Annuity Fit Into Your Retirement Plan?
Deciding whether an annuity is right for you involves looking at your entire retirement picture. It isn't just about the potential for growth—it's about how much certainty you need in your income plan.
A few questions worth asking:
Do I have a gap between my projected expenses and my guaranteed income sources (like Social Security)?
How much of my retirement savings am I comfortable exposing to market risk?
Is my primary goal to protect what I've built, grow it for the future, or create income today?
Do I have enough reachable cash for emergencies outside of what I might put into an annuity?
What is my plan for addressing potential long-term care costs in the future?