Moliciero Financial | Investing and Financial Planning

Lifetime Annuities Explained

A lifetime annuity is an agreement between an individual and an insurance company that, for a lump sum payment, the individual will receive an income for life. They are also sometimes referred to as immediate or income annuities. How much is received and whether it fluctuates over time depends on how the annuity contract is structured; but by definition, the individual cannot outlive his money. Lifetime annuities can be a very attractive option for those with longevity in their genes. If a family has ancestors who have lived into their 90’s and beyond, this is a way to ensure financial needs will be met, no matter how long one lives.

Since individual retirees have a diverse set of needs, it stands to reason that the lifetime annuities available are diverse as well. There are many options and riders that can be added to a lifetime annuity contract, designed to give the most flexibility possible to an individual in retirement. Lifetime annuities can be very simple as well, involving a single lump sum payment and regularly scheduled disbursements for life. Let’s look at some of the different types of lifetime annuities and how they work.

Types of Lifetime Annuities

A fixed lifetime annuity is perhaps the simplest type to understand. In exchange for the initial deposit, fixed payments are made monthly to the recipient for life. For additional cost, a spouse can be added and the annuity would extend to that person’s life as well. The interest rate that a fixed lifetime annuity earns is related to when the annuity is purchased, and can therefore be highly dependent on the economic conditions at the time. Often, a fixed lifetime annuity is not the best choice available.

An indexed lifetime annuity uses an underlying equity index such as the S&P 500, DJIA or Russell 1000 to determine the amount paid to the annuity holder. An indexed annuity is more complex than a fixed annuity, and often places rate caps on the amount of interest an annuity can earn. On the other hand, there is usually a guaranteed minimum amount of interest paid into this type of lifetime annuity, regardless of whether the index was positive on the year or not.

An alternative to the fixed and indexed type of annuity is the variable lifetime annuity. Variable annuities use investment in mutual funds to grow the value of the annuity over time. An advantage to this type of lifetime annuity is that the capital within the account can be invested in riskier but higher interest earning funds, ultimately paying the annuity holder higher returns. Since the responsibility for investment decisions is on the investor and not the issuer, this is a riskier type of lifetime annuity. Over time however, variable lifetime annuities tend to perform better than the other types.

Options and Riders for Lifetime Annuities

Lifetime annuities can be tailored to meet the needs of most retirees, since insurance companies offer many options and extra provisions that may be added to standard lifetime annuities. One such option or rider that may be added to a lifetime annuity is the coverage of a spouse. In the case of a typical lifetime annuity, the benefits cease when the annuity holder dies. With what are called joint-and-survivor annuities, the benefits will transfer to the surviving spouse, for the remainder of that person’s life. Since this type of benefit has the potential of costing more, an issuer will charge more for this provision in the contract.

Another option for lifetime annuities is inflation protection. Since indexed lifetime annuities adjust with market fluctuations and economic conditions, inflation protection does not apply to this type of annuity. Inflation protection is typically used as a provision in fixed lifetime annuity contracts. In this situation, payments may be structured to increase by a certain percentage over time, or they may be tied to the Consume Price Index (CPI), and adjust with fluctuations in that metric.

Since lifetime annuities are intended for retirement-aged individuals, there will most likely be no early withdrawal fees levied by the IRS. However, there may be fees and surrender charges issued by the insurer if the money is withdrawn from the account before maturity. If an annuity will be kept in place for a long time, choose the longest duration maturity available. Usually, even with long maturity annuities, after 7 years there is no surrender charge applied. Surrender charges apply only to withdrawals of capital; disbursements to the annuity holder are not subject to surrender fees, and they begin as soon as qualifications are met.

Other Advantages of Lifetime Annuities

Perhaps the biggest draw for lifetime annuity investors is the security and stability that they provide. When an individual invests in a lifetime annuity, the company providing that annuity is contractually obligated to making payments for the life of the holder, regardless of how long that may be. For a retiree who hopes to live a long and financially secure life, this is quite a guarantee.

Since lifetime annuities are sold through most insurance companies, it is easy to compare different plans side by side. And since a large number of insurers have been providing benefits for many decades, the records for performance are easy to track. For stability, security, and ease of comparison and purchase, lifetime annuities are one of the best retirement plans around.

 

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