Annuities: the "legitimate" loophole for
protecting your assets

go to quote request form >>

What is an annuity?
An annuity is a type of investment instrument an individual can use to accumulate tax-deferred savings and protect his/her monetary assets—such as retirement pensions, 401 K accumulations, and money markets, for example—from both taxes and loss due to market and economic declines. That is, even if you make no withdrawal, you must report gains on regular savings, money market accounts, Certificates of Deposit (CD's), and any other after-tax savings. If your money is in an annuity, you do not even receive a 1099 unless you make a withdrawal—or "take a distribution," as the government calls it.

How does an annuity protect pre-tax assets?
One of the most important benefits of annuities is in the way any remaining funds are paid to your survivors. Currently, annuity funds are paid directly to a beneficiary without going through probate. That is extremely important. Funds that are not tied up in probate can work as additional life insurance, giving your heirs money to pay for final expenses, estate taxes, and any other bills that you might leave. If you leave no bills, the annuity will belong to the individual you designate—with no possibility of contesting it. If fact, a properly structured annuity can even be kept out of the hands of a nursing home.

Another benefit of an annuity is that you collect a higher interest percentage than you would on either a CD or regular savings account. And since, you do not have to report the gain, you also gain interest on "Uncle Sam's" money. Finally, with most annuities, you are fully protected against market downsides. While the interest will be lower than the upside of a good mutual fund, it will completely avoid loss when the fund goes the other way. Thus, while your friend who prefers the risk of stocks, mutual funds, or other variable products is catching up from last year's lost, your money is plodding steadily up.

Types of Annuities

Immediate Annuity
This is the type of annuity that most people think of first, but it's certainly not your only—or even your best—option. In an immediate annuity, you purchase a contract for a particular sum of money. The company takes your principle, applies annual interest to it, and pays it back to you monthly. Since you cannot outlive it, the total payout, will always be more than you paid in. You can choose a payout period, such as 10 pay. You will be paid no matter how long you live, but if you die in less than 10 years, your beneficiary will receive the remainder of the 10 year payout. Usually, when you choose this option, you cannot reverse it.

Fixed Annuity
The fixed annuity is the option preferred by most seniors. You are guaranteed a minimum interest on your investment with a possible bonus in the first year. During any given year, your gain can be—and often is—a percentage or two higher than the minimum guaranteed interest. However, you can never go below the minimum regardless of what happens to the economy, and your gain is still all tax deferred and probate free. Your money is absolutely safe. You withdraw it when you want to—not in a required monthly payout, and your beneficiary can take over ownership and allow it to continue to grow—again, tax deferred.

Indexed (fixed) Annuity
The indexed annuity is usually also a "fixed" annuity, meaning it can never lose any of the gains once credited. The interest rate is calculated by "tracking" the stock market—usually the S & P 500. Your money is not invested in the stock market. The market is simply used as a way to determine how much interest you have earned. If the market has an average gain over a one year period, you also will have a gain—the amount determined by the company's "participation rate," (which may change from one year to the next). However, when the stock market shows a loss, you continue to gain—albeit at a much slower rate. When the market turns back up, your fund is reset—gaining from the point where the market began declining rather than having to wait for the market to return to the point of decline. Over time, indexed annuities—as long as they are fixed—will usually outperform a flat rate fixed annuity.

Variable Annuities
The variable annuity is the only one with risk. Only a person with a license in variable products can sell you one. Your money is invested in funds with a higher potential for gain, but also with risk. It is possible to lose your entire investment with a variable annuity, but if you have a reputable agent who monitors your investment regularly, the gains can also be impressive. Generally, a variable annuity is not the ideal investment for a senior as you may not have time to recover from a market loss.

Does an Annuity have any disadvantage?
Annuities may not be for every one. The primary disadvantage is that your withdrawals are limited during the first 5 or 10 years, depending on the contract. You will usually be allowed to take a percentage of the principle plus the interest, but if you take more during the first years, you will pay a penalty. This penalty decreases each year. However, you don't want to put your entire life savings into an annuity, especially if you are drawing on it for part of your income. Money put into an annuity should always be money you don't plan on spending in the immediate future.

Interest will be lower than the gains you had in a mutual fund during your working years. The trade off is, you can't lose—as long as it is a fixed annuity—and you have a probate free legacy.

People in their 30's and 40's may want to look at something like a good IRA or a Roth IRA rather than an annuity. You will usually get a higher gain on solid mutual funds, and when young, you can stand an occasional dip. In any case, retirement instruments, including annuities, are subject to Federal penalties if taken prior to age 59 ½ except in certain situations.