Are Annuities a Good Investment?
Annuities are often sold as investments, which sets up the wrong comparison. Judged as insurance against outliving your money, the answer gets clearer, and more personal.
As investments, annuities usually underperform plain portfolios because of fees and caps. As longevity insurance, fixed income annuities do something portfolios cannot: guarantee payments for life. They fit retirees prioritizing certainty over maximum wealth.
The case for
Certainty has real value. A retiree with $1,500 a month guaranteed spends more confidently than one with a bigger but volatile portfolio, and research on retiree happiness backs this up. Mortality credits, the subsidy from buyers who die early, let lifetime payouts exceed what bonds alone could fund.
Annuities also simplify: one check, no rebalancing, no sequence-of-returns worry in early retirement. For the spending that must happen, housing, food, insurance, a guaranteed floor beats hoping markets cooperate.
The case against
Costs are the eternal knock. Variable annuities bleed 2 to 4 percent yearly; even fixed products bake in the insurer's spread and surrender charges that lock money up for years. Inflation erodes fixed payments relentlessly: at 3 percent inflation, a check loses half its buying power in 24 years.
Opportunity cost is the quieter killer. Money annuitized at 65 cannot compound in markets or cover surprise lump expenses. And insurer guarantees are only as strong as the insurer plus state guaranty associations, which cap coverage.
The sensible middle
Annuitize a portion, not everything. A common framework: guaranteed income (Social Security plus annuity) covers essential spending; the investment portfolio covers discretionary spending and inflation growth. Many planners land near 20 to 40 percent of retirement assets annuitized.
Shop fixed income annuities across multiple highly rated insurers, since payouts for identical contracts can differ 10 percent or more. And never buy under pressure: the free-look period, typically 10 to 30 days, exists because high-pressure annuity sales are a known problem.
Skip the arithmetic
Run your own numbers with the free annuity calculator before talking to any salesperson.
Annuity value questions
Do financial advisors like annuities?
Advisors paid by commission can earn 5 to 8 percent selling an annuity, a powerful incentive. Fee-only fiduciaries, who earn no commission, tend to recommend only low-cost fixed income annuities and only for the guaranteed-income slice. The compensation question predicts the recommendation.
What is the biggest annuity mistake?
The classic error: walking in wanting safe retirement income and walking out with a variable annuity carrying 3 percent yearly fees and riders you do not understand. Define the job first (guaranteed check), then buy the simplest product that does it, after comparing quotes from several insurers.