23 January 2010

3 Basic Things You Need to Know About Annuity for Better Investment Decisions

An annuity is an insurance policy in which the money you pay into it  is invested by the insurance company, and the income made from it is  paid to you in parts over a certain period of time. The great thing  about an annuity is that it provides you with lifetime income, offers  better tax savings, combines insurance and savings, guarantees returns,  and offers inflation protection. However, as its drawbacks, it also does  not maximize your investment, it proves to be inflexible, and it  requires a large sum of money to invest.

Is an annuity a wise investment for you? Many insurance companies  offer annuities as a great retirement investment, but it can be tough to  know whether or not it is the right option for you. Here is some  background information on annuities that will help you understand its  nature, benefits, and disadvantages so you can make better decisions:

Annuity explained

Annuity is an insurance contract you pay either in a lump sum or  though periodic payments over time. The amount you give is invested by  the insurance company or financial institution. Income generated is paid  out to you in parts, usually over your lifetime or a specific period of  time. There are two basic types of annuities:

*Immediate annuities–Immediate annuities are those you pay in a lump  sum and you immediately start receiving your returns the next year. This  type of annuity is great for those who have just retired who have a  large sum of money and want to quickly start getting money they may  need. The thing about this type of annuity is that it is more expensive  than the next type.

*Deferred annuities–Deferred annuities are more common. This type of  annuity is either paid in a lump sum or in installments with your  returns given out after a stipulated period of time, such as ten years.  Payouts may also be given in a lump sum, through payments over a certain  period of time, or through lifetime payments after you have retired.  The principal money you have invested here grows tax-free until you  decide to withdraw it.

Annuities are also classified according to investment styles, namely  fixed and variable annuities. Fixed annuities are characterized by a  guaranteed and fixed rate of return on investments, which is good for  investors who want to play safe. Fixed annuities can either be immediate  or deferred. Variable annuities, on the other hand, are those whose  returns vary depending on the performance of the mutual funds selected  at the beginning of the contract that invests money.

Benefits of annuity

Aside from the efficient way to canvass and choose the best annuity  from among insurance companies and other financial institutions because  of annuity leads (LINK)generation, annuities are becoming increasingly  attractive to many investors, especially those who are retiring within  ten years. Here are the benefits that annuities provide its holders:

*Provides you with lifetime income– Annuities can provide you with  guaranteed lifetime income. Upon retiring, you can begin receiving  income from your principal investment. You will annually receive  returns, either fixed or variable, depending on the investment type of  annuity chosen upon the initiation of the contract.

*Offers better tax savings. Since your investment can grow tax-free,  annuities feature better tax savings compared to other investments. You  have to note though, that if you decide to pre-terminate your principal  amount, you will pay penalties and other applicable taxes.

*Combines insurance and savings–Annuities are often used as an  investment tool that you can enjoy while you are living out your  retirement years. It is actually an insurance policy for the simple fact  that you are insured to receive benefits in your lifetime. But it is  also an investment for the reason that you will be enjoying throughout  the remainder of your lifetime the income of the investment you placed  with the insurance company or financial institution.

*Guarantees returns–Unlike other available investments that present  the possibility of losing your principal amount, annuities can provide  you with guaranteed returns. Especially when you choose fixed annuities,  you are sure how much you will receive periodically. Even with variable  annuities, you can also be sure that at least the principal amount is  guaranteed.

*Offers inflation protection.–Annuities can also be set in such a way  that the income you periodically receive can sustain the cost of  living, but for a higher initial cost.

Drawbacks of annuities

Despite the attractive benefits of annuities, they still hold some  disadvantages and limitations that disappoint some investors. Here are  the drawbacks of investing in annuities:

*Does not maximize your investment–Although annuities, especially  fixed annuities, can ensure return on your investment, it does not  maximize your investment. It cannot take advantage of other possible  greater earnings that you can obtain in other investments, such as  stocks, Forex trading, and T-bills.

*Proves to be inflexible–Since the principal amount you paid is held  by your insurance company for investment, you cannot get that amount of  money anytime you want for another investment or purpose. The long term  contract in annuities can cause you probable opportunity losses.  Although you can pre-terminate the contract, you will be at a loss with  the penalties, applicable charges, and taxes.

*Requires large sums of money to invest–Even though you are fine with  the minimal returns and the long-term aspects of annuities, another  drawback you might find disappointing about annuities is its capital  investment requirement. Annuities are quite expensive to invest in,  especially when you decide to invest at an older age. The younger you  are, the cheaper your principal premium is, but you may have to wait for  a certain retirement age or whatever term the contract states, so you  can start receiving your returns.

The decision of whether or not an annuity is a wise investment for  you is yours to make. Everyone has different needs, and you need to  weigh your priorities. If you have the money and you want to play safe,  as well as enjoy the income at the time you need it most, then annuities  are for you. On the contrary, if you want to maximize your investment  and you want to have better control over it, then there are other  investment options for you. As long as you know the different  opportunities the financial world offers and you know the different  advantages and drawbacks they present, you can always make better  decisions.

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