During these tumultuous economic times, investors are looking for a safer way to sock away cash. In the past, certificates of deposit have been a popular way to invest money. However, many folks who own CD’s are asking their bankers if there is another alternative. And what they are hearing from many bankers is to take a look at annuities.
Generally used to provide income in retirement, an annuity is a contract between the purchaser, or owner, and an insurance company. In its simplest form, an investor pays money to an annuity issuer, and the issuer then pays the principal and earnings back to either the investor or to a named beneficiary. The biggest advantage of an annuity is that the investor’s money grows tax deferred until it is withdrawn. The tradeoff is that if the money is withdrawn before the investor reaches the age of 59, they will usually have to pay a 10 percent early withdrawal penalty to the IRS.
“Annuities basically follow IRS guidelines,” said Thomas Howard. Howard serves as president of Investment Services Inc., a brokerage service dealing in stocks, bonds and variable annuities, as well as serving as managing director of Bancorp Insurance Services Inc., both of which are wholly owned subsidiaries of BancorpSouth. “Most fixed annuities have a surrender charge, similar to a CD.”
Annuities can offer a fixed rate of return or allow for market potential though equity-based investment. Fixed annuities pay a “fixed” rate of return. The monthly payout is a set amount and is guaranteed. Fixed annuities may be a good choice for conservative investors who value safety and stability and those nearing retirement who want to shelter their assets from the volatility of the stock or bond market.
With variable annuities, investments can be made in a variety of securities including stock and bond funds. Stock market performance determines the annuity’s value and the return investors will get from the money they invest. The amount of risk one is willing to assume should influence the kind of funds one selects. Those who consider variable annuities are usually comfortable with fluctuations in the stock market and want their investments to keep pace with inflation over a long period of time. They are typically young and want to prepare financially for retirement by reaping the gains in the stock or bond market over the long term.
“Because interest rates dipped so low so fast in 2008, it was a record year for fixed annuities in the United States,” said Howard. “People were asking for alternatives to CD’s and annuities are very appealing.” Howard said that the predictability with fixed annuity products is easier to understand if someone is a traditional CD customer. “A CD customer who wants a higher rate of return and wants to feel comfortable about where he’s putting his money seems to gravitate toward the fixed annuities.”
Variable annuity sales did not fare as well in 2008 as the stock market’s dip scared off investors. As a result, insurers are raising prices and adding restrictions on the products. But industry experts believe that sales of variable annuities should rebound once the stock market does.
It is important to understand that an annuity is not a deposit, and there is no bank guarantee. It is not insured by the FDIC or other government agency. In the case of BancorpSouth, Howard said that the credit worthiness of the companies whose products it sells is constantly monitored. “They must meet the two highest credit ratings from the top rating agencies, such as AM Best and Standard and Poors.”
What an annuity offers an investor is a clear tax advantage. The annuity earnings are tax-deferred. In contrast to mutual funds or other investments made with “after-tax money,” there are no tax consequences with annuities if investors change how their funds are invested.
Another benefit of annuities is that the investor can designate a beneficiary. “Because of that, it bypasses any probate court,” Howard stated. While an annuity can provide a stream of payments that last as long as you do, they are primarily used to pass wealth.
Contact MBJ contributing writer Susan Marquez at firstname.lastname@example.org .