If you decide that you have indeed suffered enough of the market’s mood swings, you may want to research fixed indexed annuities as a potential addition to your portfolio. As you probably know, an annuity is a contractual transfer of risk issued by an insurance company. Annuities were designed to buffer against retirement-damaging situations such as increasing taxes, inflation, and outliving one’s resources. Annuities, especially fixed indexed annuities, are perhaps the most valuable tool to create what is most needed in retirement-namely income.
A fixed indexed annuity (FIA) is designed to give you guaranteed protection of your principal investment while allowing you to have a measure of growth based on market indices such as the S&P 500. A FIA is not directly correlated to the stock market, however, so you can lock in gains without worrying about market volatility.
There are some distinct advantages to including fixed indexed annuities in your retirement planning, including:
- A FIA may be an ideal bond replacement. Research, including that of Professor Wade Pfau of the American College Center for Retirement Income, indicates that a synergy of reduced risk and greater income can be achieved in retirement by substituting income annuities for bonds. Data collected by Pfau and others looks very supportive of annuities, showing them often outperforming bonds while protecting principal, especially in low interest rate environments.
- A FIA can create a stream of lifetime income. FIAs are uniquely well-suited as income generation tools. Having at least one lifetime income source in a retirement plan is a wise idea for most people. If you feel, for instance, that you haven’t saved enough money to maintain your lifestyle in retirement, having a secure flow of guaranteed income may allow you to take more risk with the rest of your portfolio to create more disposable income. Modern annuity design can also provide a certain degree of liquidity. Some FIAs allow for withdrawals of up to 10% without penalties, even in the contract’s early years.
- FIAs grow tax-deferred. FIA gains are not taxed until you withdraw money, providing tax-free growth. Also, you start taking withdrawals and paying taxes, it is likely to be during a time when you are earning less and may be in a lower tax bracket. FIAs can be one of the more tax-efficient ways to grow your wealth.
Final thoughts: Fixed indexed annuities can help you smooth out your retirement planning by limiting downside risk while giving you some upside earning potential. FIAs aren’t for everyone, however. If you like taking on more risk to get short-term gains, do not want or need a stream of lifetime income, or are not worried about outliving your money, then a FIA may not be the right choice. It’s a wise idea to at least sit down with a qualified retirement and income specialist and determine whether annuities are the right tool for you to achieve your financial objectives.
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