Annuities are becoming more accessible through fee-only advisors and retirement plans. For advisors who have clients interested in these products, here's a quick rundown on what types of annuities are available and how, generally, each type works.
Keep in mind: There are always new wrinkles to think about. If you are new to annuities, and you want to explain them to clients, start by talking to your compliance people, to see what kinds of training and advisory support you need. Also, remember, this is just a basic cheat sheet to get you started.
Let's start with some basics:
- Annuities need a solid foundation: Annuities are products sold by insurance companies, and the contracts typically stay in place for many years, or even for a lifetime. The key is to make sure the company is fundamentally sound.
- All U.S. retail annuities have key similarities: 1) The annuity is a contract between your client and the insurance company; 2) Money in the account grows tax-deferred, until it's withdrawn (unless bought with after-tax funds); and 3) annuities provide periodic payments over a specific time, for life or in lump sums.
2 Main Types of Annuities
Fixed: This refers to the size of a payout. These are annuities in which a minimal rate of interest is guaranteed, and periodic payment amounts do not fluctuate. These are the simplest, have lower payouts than other annuities and typically don't have fees, but do have surrender charges.
Variable: Variable annuities include a separate account where money is typically invested in mutual funds. Payouts can vary depending on the performance of these underlying investments. Variable annuities carry the greatest risk (client could lose principal), but could have higher payouts. Also, fees can be high.
2 Main Types of Annuity Payout Options
Deferred: This refers to when payouts begin. In this case, payouts are delayed until a future date. This gives money in the account time to grow. During this accumulation phase, no taxes are paid. There are some fees.
Immediate: In this case, payouts begin shortly after you make a lump-sum payment to the insurance company, and once this happens, principal can't be withdrawn.
Retail Annuity Types
Contingent Deferred Annuity (CDA): This is a new concept in which an annuity is "bolted onto" a client's portfolio. The cost varies according to fluctuations in the stock market. A CDA on a portfolio with higher stock allocation would cost more than one with lower allocations to stocks.
Multi-Year Guaranteed Annuity (MYGA): This is a type of fixed annuity designed to protect the premium and accumulate interest at a guaranteed rate for a specific amount of time, typically a period of three to 10 years.
Non-Variable Indexed Annuity: This is a type of annuity that that offers a guaranteed minimum rate of at least 0%, meaning that the the holder cannot lose account value due to poor investment market returns. The holder can then earn additional interest, based on the performance of one or more investment indexes, such as the S&P 500. State insurance regulators classify these contracts as non-variable, or fixed, because of the guaranteed minimum rate of return.
Registered Index Linked Annuity (RILA): These have grown popular in recent years. A RILA limits exposure to downside risk and provides the opportunity for growth. It offers more growth potential than a fixed indexed annuity but less potential return, and less risk, than a variable annuity. Typically these products offer a variety of term lengths.
