As millions of Americans face retirement, many are starting to recognize the real possibility of outliving their retirement savings. That’s because, unlike their parents and grandparents, today’s 65-year olds can expect to live an additional 20, 30 or more years.1
 
Nonetheless, a recent survey found that only slightly more than half of workers feel confident that they’ll have enough money to live comfortably in retirement.2 Fortunately, many are taking steps to improve their situation, including saving more money and changing the way they invest.3

One investment that makes it easy to create a reliable stream of income in retirement is the variable annuity. Here’s why.

A variable annuity is a long term investment vehicle purchased from an insurance company.  It’s well suited to be part of a retirement savings plan as it allows you to accumulate assets on a tax-deferred basis by investing in a variety of investment portfolios. Variable annuities guarantee a payment, usually at retirement, which will vary based on the amount invested as well as the performance of the underlying investment portfolios you choose. At retirement, you determine how you will receive payments by selecting from a range of payout plan options, including a lifetime income option.4

With the ability to guarantee an income you can’t outlive, variable annuities are growing in popularity as a retirement investment option. The key to selecting the right one for your specific objectives is asking the right questions. Here are five to get you started.

1.    How do the expenses of one variable annuity compare with other variable annuities offering the same types of funds and benefits?

One of the most basic elements of evaluating a sound investment choice is its net performance after expenses. Begin by looking for annuities that rank among the low cost leaders, then compare contracts, paying particular attention to expenses. Some of the charges to look for include:

-    A management fee for costs associated with running the separate account investment portfolios.
-   A charge, called the mortality and expense fee, which is used to cover the costs of distribution, administration and insurance risks.
-   A contract fee that is typically waived when the contract attains a minimum size, and
-   An upfront, back-load or no-load sales charge, depending on the type of variable annuity.

It’s important to compare the expenses associated with each variable annuity you’re considering. That’s because lower expenses mean more money in your contract. For example, if you pay a sales charge at the time of purchase, the mortality and expense fee will probably be lower than if there were no sales charge.

Some companies charge a front-load fee; others offer a back-load purchase option. And still others have a no-load design, which charges a relatively higher asset-based fee every year instead of deducting up-front sales charges. Advantages of a front-load design (where you pay the sales charge up front) include lower annual expenses and access to your funds without withdrawal charges. A back-load design allows you to put all of your money to work immediately with no front-load charge, although withdrawals may be limited and could be subject to charges.

2.    What options are available that allows you to access your money without having to pay contractual surrender charges or IRS tax penalties?

An annuity with a front-load design allows you access to your funds without surrender charges (minimum investments are often required) while a back-load design contract has surrender charges associated with withdrawals that usually decrease each year until they eventually expire. Most contracts allow for a surrender charge-free corridor that allows you to take out a portion of your contract value without a charge. And many variable annuity contacts sold today are issued with a provision that allows you to take money from your contract without a surrender charge in the event of terminal illness or confinement to a nursing home.

Withdrawals from deferred annuities may be subject to ordinary income tax. If taken prior to age 59 ½, they may also be subject to a possible 10% IRS early withdrawal penalty.

3.    Does the tax-deferral of a variable annuity end when the annuitant dies?

Many non-tax qualified variable annuity contracts issued today offer a contingent annuitant or contract continuation feature. This enables your beneficiary to become the annuitant in the event you die before the contact is put into an income plan. Although the tax deferral cannot continue indefinitely, and IRS rules apply, this feature can allow the tax deferral of your annuity to continue beyond your lifetime to your beneficiaries.  

4.    Why should an individual put a tax-deferred investment into a tax-qualified account such as an annuity in an IRA?

Investing in a variable annuity through an IRA or 401(k) plan provides no additional tax advantages. However, the real reason to use a variable annuity inside a qualified plan is to access certain benefits only annuities provide. These include:

-    Automatic portfolio rebalancing
-    Options for guaranteed stream of lifetime income
-    A guaranteed death benefit which applies before the contract is put into an income plan, typically up to age 75, which pays the beneficiary the greater of the current market value or the amount paid onto the contract (minus withdrawals) when the annuitant dies.
-    The ability to transfer among investment choices without triggering a taxable event

5.    What are the issuing company’s financial strength ratings from the four major rating agencies?

The ratings an insurance company receives from third-party rating agencies are an important indicator of its financial strength. That’s because all guarantees in an annuity are solely backed by the issuer.

There are four major rating agencies: Moody’s Investor Services, Standard & Poor’s, Fitch and A.M. Best Company. Look for companies that earn top ratings from each. Keep in mind that third-party ratings are subject to change, and that the ratings have no impact on investment return or principal value of the separate account.

The combined benefits of tax-deferred growth, guaranteed death benefit, and guaranteed lifetime income options offered by a variable annuity provide unique advantages. An important source of retirement income for many Americans, variable annuities may play an important role in helping you reach your retirement goals.

¹       Northwestern Mutual Data: Survival Probabilities, best issue class, non-tobacco/premier-issue 2006

²       2009 Retirement Confidence Survey, Employee Benefit Research Institute

³       2009 Retirement Confidence Survey Fact Sheet: Changing Expectations About Retirement

⁴       Based on overall soundness of issuing insurance company. The investment return and principal value of a variable fund will fluctuate so that the accumulation value at maturity or surrender may be more or less than the original cost. Withdrawals for deferred annuities may be subject to ordinary income tax and may be subject to a 10% IRS early withdrawal penalty if taken before age 59 1./2.

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