When it comes to retirement planning, Americans are increasingly on their own.
According to a Pew Charitable Trusts survey released in February, just 13 percent of baby boomers born between 1946 and 1964 have a traditional pension plan; for the millennial generation born between 1981 and 1997, that number drops by more than half to a mere 6 percent.
While the days of getting a monthly check from your old employer are dying, there are several options for those who want to emulate the steady income of a traditional pension. And one group of increasingly popular investment alternatives right now is annuities.
In a nutshell, investors pay money into an annuity and then get paid back regularly under fixed terms. Depending on the kind of annuity you choose, you can get guaranteed monthly income or death benefits similar to life insurance or a promise of minimum investment returns in some cases.
[See: The Best ETFs Retirees Can Buy.]
“The real power of income annuities … is that they can provide guaranteed outcomes,” says Dylan Huang, senior vice president and head of retail annuities at New York Life. “Regardless of the economic or interest rate environment, annuities can solve some of the trickiest problems people have when planning for retirement — generating guaranteed retirement income that they will never outlive — because they know up front what the outcome will be.”
Annuities are contracts specific to the individual purchasing them and to the provider, and as a result come in countless forms. But generally, you can organize annuities by the following categories:
Immediate or deferred payment. An immediate annuity is exactly what it sounds like — a contract where you pay in and start getting paid back immediately. Meanwhile, a deferred annuity involves payment now with distributions starting later. You will get a bigger payout if you defer payment, but obviously that means tying up your money for years without access to it if you need it.
Fixed rate versus variable rate. A fixed-rate annuity provides certainty based on your payout and relative rate of return on your money, while variable-rate products allow you to ride overall market trends. Huang says that “conservative investors looking for safety of principal” tend to favor fixed returns, while variable annuities “offer the potential for growth and the risk of market loss,” making them more appropriate for younger or more aggressive investors.
With or without death benefit. Some annuities operate as a hybrid life insurance policy, offering family members a payout when an investor dies. Most include a basic guarantee that you’ll be returned the principal you paid in, but other enhanced policies include a large lump sum death benefit regardless of prior payouts.
Of course, certainty is only a good thing if the outcome you’re depending on is a good one. Given the complexity and variety of annuity products, there’s a good chance you may find one that fits your retirement strategy.
[See: 9 Stocks to Buy for the Aging Baby Boomer Market.]
But Chris Ure, CEO and managing director of HighTower Boca Raton in Boca Raton, Florida, says that variety can often lead to confusion. And thanks to a big marketing push from some providers in the space, unsuspecting investors may end up paying steep fees or ultimately purchasing an annuity that is not right for their particular financial situation.
“Ultimately, annuities are insurance products which are sold not bought,” Ure says. “I don’t necessarily believe Americans are intimidated by annuity products; rather, I believe most Americans, and unfortunately most advisors, do not have enough understanding of these products to properly understand what they are selling or buying.”
Tax treatment of annuities is a particularly sticky subject, Ure says, noting that death benefits paid from an annuity are treated much like earnings with traditional life insurance benefits not taxable to the beneficiary. And of course, it’s always important to read the fine print on management fees and expenses.
Huang concedes some annuities can be confusing. But the bottom line, he says, is simple: “If you can’t explain it to your neighbor, you probably shouldn’t buy it.”
[See: 8 Things That Matter More Than Money for a Happy Retirement.]
To Huang, the certainty provided by a well-structured annuity makes it ideal for many investors who don’t have the ability or desire to actively manage their own money later in life. For these Americans, annuities are as close to a traditional defined-benefit retirement plan as they will find.
“Think of it as a personal pension, effectively turning your retirement savings into what it’s intended for — retirement income,” Huang says. “With retirement lasting 20, 30 or even 40 years these days, ensuring that your income lasts as long as you do is more important than ever.”
More from U.S. News
The Best Energy Stocks to Buy for 2017
7 of the Worst Product Flops Ever, Besides the Samsung Galaxy Note 7
10 ETFs to Buy for Aggressive Growth
Is an Annuity Right for You? originally appeared on usnews.com
