Answers ยท Annuities
What is the downside of annuities?
The main downsides are liquidity, cost, and inflation. Your money is committed for a set period and coming out early usually triggers a surrender charge. Fees and riders reduce what you keep. And a level payment buys less after twenty years than it does on day one.
Your money stops being available.
This is the trade at the centre of every annuity. You hand over a sum, and in exchange the contract promises something the market cannot promise on its own. What you give up is easy access to that money.
Most contracts carry a surrender period, commonly six to ten years, with a charge for taking out more than the allowed amount before it ends. That charge usually starts high and steps down each year.
If there is any chance you will need that money for a roof, a health event, or helping an adult child, it should not go into a contract with a surrender period. That is not a small print problem. It is the first question worth asking.
The cost is real and it is not always obvious.
Annuities vary enormously. Some are simple and cheap to own. Others carry an annual contract charge, an investment management charge, and a separate charge for each optional rider you add.
Riders are where cost quietly accumulates. An income rider or a death benefit rider each sound sensible on their own, and stacking three of them can take a meaningful bite out of the growth you were buying the contract for.
The honest version of this conversation names every charge in dollars before anything is signed. If you cannot get a straight answer about what a contract costs to own each year, that itself is the answer.
Inflation does not care what your contract says.
A payment that feels comfortable at 65 has to still work at 90. Thirty years is long enough for ordinary inflation to cut the purchasing power of a level payment substantially.
Some contracts offer an increasing payment option. It costs more, or it starts lower, or both. There is no version where you get the increase for free.
This is why an annuity is rarely the right answer for all of your money. It can be a sensible answer for the part that covers expenses which cannot flex, with other assets left to do the growing.
The guarantee is only as strong as the company behind it.
Annuity guarantees are not FDIC insured and are not backed by any federal government agency. They depend on the claims paying ability of the insurance company that issued the contract.
In practice that means the carrier matters as much as the product. Financial strength ratings exist for exactly this reason and are worth looking at before the illustration.
California also has a guaranty association that provides limited protection, with caps. It is a backstop, not a substitute for choosing a sound carrier in the first place.
Complexity is a downside in itself.
An annuity contract can run well past a hundred pages, and two products with the same name can behave very differently. Index crediting methods, caps, participation rates and spreads all change the outcome and all get adjusted by the carrier over time.
If a product cannot be explained to you in plain language, in a way you could repeat back to your spouse, that is a reason to slow down rather than a reason to trust the explanation.
Plenty of people who ask us about annuities do not end up with one, and that is a legitimate outcome of a first conversation.
Before you decide
Questions worth asking.
What is the surrender period, and what does it cost me to take money out in year three?
What are all the annual charges, in dollars, including every rider?
How much of my total savings would this represent, and what is left liquid?
What happens to this contract when I die, and what does my spouse actually receive?
What is the financial strength rating of the issuing carrier?
What would have to be true about my situation for you to tell me not to buy this?
Related
Are annuities ever the right answer?
Sometimes. They are built for a specific job, which is turning a sum into income that does not stop while you are alive. If your fixed expenses are not already covered by Social Security and any pension, that gap is the case for one. If they are covered, the case is much weaker.
Can I get my money back out of an annuity?
Usually yes, with conditions. Most contracts allow a penalty free withdrawal each year, often around ten percent. Beyond that, and before the surrender period ends, a surrender charge applies. Some contracts also allow full access without charge for events like nursing home confinement.
Why do annuities get recommended so often?
Two reasons, and they are not the same. One is that decumulation is a genuine problem and annuities are one of the few tools built for it. The other is that they pay a commission. Both things are true at once, which is why the order of the conversation matters more than the product.
Where this fits.
This question sits inside a bigger one. Annuities walks through the whole decision rather than this one piece of it.
On Point Finances is a licensed insurance agency, not a tax, legal, or investment adviser. This page is general education, not a recommendation, and reading it does not create a client relationship.