Regular readers will know I’m not such a big fan of variable annuities but I’ve gotten a few comments that perhaps I’m a bit too harsh on them. To that end, I’ve compiled a list of the pros and cons of variable annuities in an effort to be a bit more balanced in my presentation of them.
Pros of Variable Annuities
- Deferred taxation - You don’t owe anything until you cash it in
- (Often) some sort of guaranteed minimum return
- No contribution limits, unlike other tax-advantaged accounts such as IRAs and 401Ks
- You can choose to annuitize your account at retirement, guaranteeing an income stream for as long as you live with no tax consequencs
- No Required Minimum Distribution requirements, which can be a big plus if you have a large estate or come from a long-lived family
- Ability to borrow against the value of your annuity (for a price)
- Include a death benefit, ensuring your heirs receive some minimum amount should you die early
- UPDATE: Annuities have certain positive asset-protection characteristics in some, though not all, states.
Cons of Variable Annuities
- Gains taxed as regular income and not at the lower capital-gains rate
- Subject to 10% penalty if you withdraw gains before age 59 1/2, just like retirement accounts
- Generally higher expenses than their mutual fund counterparts
- Often have confusing terms and are hard to understand for the average investor
- Value dependent on th claims-paying abilit of the insurance company in question. If your insurer goes out of business, so does your money.
- Almost always come with significant surrender fees if you change your mind within a specified period, 7 years on average
- Death benefit usually far too expensive to be worth it, unless you happen to die fairly young
Like what you see here? Subscribe to my feed for more great content every day!
2 responses so far ↓
1 Robert MacDonald // Jul 31, 2008 at 7:36 pm
Very well balanced and reasonable comments on the pros and cons of variable annuities. I have been in the insurance industry for over 40 years and while a great fan of annuities, every time I would study the ins and outs of variable annuities the conclusion reached was that the benefits never matched the fees and limitations of the contract.
2 Jase // Oct 6, 2008 at 7:30 pm
I would have to think the living benefits offered on some of the more recent VA’s are a bit more attractive to investors now after the 30% drop of the DJIA. Not a cure-all for sure but for lifetime predictable income they do have a place for some portfolios. Prudential offers one with a 7% annual with daily market lock until the first withdrawal ( then that goes to quarterly market lock) so someone who may be able to go 7-10 yrs before taking an RMD or other distribution may be suited for it. Just my opinion.
Leave a Comment