Bar News - July 20, 2007
NHBA Insurance Agency: Annuities – A Primer, Part 3
By: Sue Morand
This is the third in a series of NHBA insurance articles on Annuities by Suzanne Morand, NHBA insurance Agency. Click to read the first article or the second.
Variable annuities have become a part of the retirement and investment plans of many Americans but, before you buy a variable annuity, you should know some of the basics.
A variable annuity is a contract between the individual and an insurance company under which the insurer agrees to make periodic payments to the individual. This type of annuity offers a range of investment options and the value of the annuity will vary depending on the performance of the investment options chosen. The investment options are typically mutual funds that invest in stocks, bonds, money market instruments or some combination of all three.
Although variable annuities are typically invested in mutual funds, they differ from mutual funds in several important ways:
- First, variable annuities let you receive periodic payments for the lifetime of the individual (or spouse or other designated person). This feature offers protection against outliving your assets.
- Second, variable annuities have a death benefit. If the individual dies before the insurer has started making payments, the beneficiary is guaranteed to receive a specified amount, typically at least the amount of the purchase payments.
- Third, variable annuities are tax-deferred which means no taxes are paid on the income and investment gains from the annuity until the money is withdrawn.
A variable annuity has two phases – an accumulation phase and a payout phase.
During the accumulation phase, the individual makes payments which can be allocated to a number of investment options. The most important source of information about a variable annuity’s investment options is the prospectus. Read it carefully before allocating payments paying attention to the funds investment objectives, management fees, and other expenses that the fund charges.
Also, during the accumulation phase, money can be transferred from one investment option to another without paying tax on the investment income and gains although the insurer may charge you for transfers. However, if you withdraw money during the early years of the accumulation phase, you may have to pay “surrender charges” and a 10% federal tax penalty if the money is withdrawn before age 59 ˝.
At the payout phase, the purchase payments plus investment income and gains (if any) may be paid as a lump-sum payment or as a stream of payments at regular intervals, usually monthly.
If a stream of payments is chose, there are a number of choices of how long the payments will last. Under most contracts, the choices are either a set period (such as 20 years) or for an indefinite period such as your lifetime of the lifetime of another beneficiary.
Variable Annuity Charges
- Surrender charges if the money is withdrawn with a certain period, known as the surrender period, after the purchase payment.
- Mortality and expense risk charge – this charge is equal to a certain percentage of the account value, typically in the rage of 1.25% per year and compensates the insurance company for the insurance risks it assumes under the annuity contract.
- Administrative fees – covers record-keeping and other administrative expenses. This may be a flat maintenance fee ($25 or $30 per year) of as a percentage of the account value (0.15% per year).
- Underlying Fund Expenses – you will also indirectly pay the fees and expenses imposed by the mutual funds that are the underlying investment options for the annuity.
- Fees and Charges for other features – special features offer by some variable annuities such as a stepped-up death benefit, a guaranteed minimum income benefit, or long-term care insurance will carry additional fees and charges.
Next, we’ll explore equity-indexed annuities.
If you have questions regarding annuities or other life insurance products, please contact Sue Morand of NHBA Insurance Agency at 866-642-2292 or via e-mail at firstname.lastname@example.org.