What are Annuities?

What Are Annuities?

Last time we looked at how risk risk in investing is everywhere and there is really nowhere to hide. There are many who cannot handle the feelings that come with such a volatile stock market. The wild swings (both up and down, but mostly just down) can cause our hearts and minds to spin into a frenzy. 

Annuities are not commonly thought of as “good” financial vehicles. If you ask neighbors or friends what they think of annuities, you’ll either get negative or apathetic responses. Why? There are 3 reasons annuities get a bad wrap: 1) they are complex, 2) they are expensive, and 3) they are pushed onto families by financial salespeople.

So let’s back up a bit….what exactly is an annuity? According to Investopedia an annuity is “a contract between you and an insurance company in which you make a lump-sum payment or series of payments and, in return, receive regular disbursements, beginning either immediately or at some point in the future.

That’s your textbook definition, but here’s your street explanation: people want annuities when they are afraid of the volatility of owning assets, yet are unsatisfied with the low interest rates banks are offering. Annuities can shield people from that volatility, while offering to pay a bit more than bank interest rates.

When we are afraid, we tend to make choices with the reactive, irrational part of our brain, as opposed to the slower, more diligent and thoughtful part. The financial industry sees that fear and offers you annuities to calm them. Of course those annuities are REALLY expensive. But I don’t blame the annuity companies. They are simply creating a product to help meet the desires of the fearful for financial stability.

However, it really hurts to see annuity companies and insurance agents inciting those fears in order to make a sale. Capitalizing on fears is often what it takes to buy a product most people don’t need. Notice I say most people, but not all people.

There are some whose situation and temperament make annuities a great fit. There’s not enough space in my column to go through those scenarios. But I would recommend starting with the idea that an annuity is not a good fit for you until it can be proven to you, slowly and deliberately, otherwise.

If you find an annuity is right for you, I highly recommend not buying one from a salesperson or an agent. You will be paying commissions of 4-7%, which on multiple thousands of dollars, can be a real fleece job. Instead I’d recommend researching Fidelity or Nationwide for their “no-load” (meaning no commission) annuities.

That’s not to say you may not need advice on deciding if annuities are right for you, and if they are, which products are the best fit. But wouldn’t you rather take advice from someone who doesn’t stand to gain financially from your choice than someone set to make a large commission from a sale? It’s why fiduciary, fee-only financial advice is really the only way to engage financial advice.

So don’t let your fears make your choices for you on what your family needs to do financially. If you do, you will likely get fleeced. If enough people get fleeced, it lowers the standard of living for all of us. Instead, find trusted, credentialed advice to help you figure out what’s best for you and yours.