Annuities are a controversial topic in the finance industry. There are those who staunchly advocate for annuities, while others criticize them harshly. Suze Orman is one such critic who is known for not being a fan of annuities. However, not all annuities are created equal, and there are circ*mstances where they do make sense. In a recent Women & Money podcast episode, Orman stated that she does not hate all annuities, and there are some annuities she believes are worth considering.
What is an annuity?
An annuity is an insurance contract that guarantees a future stream of income in return for a lump sum or a series of payments. One of the biggest benefits of annuities is that they can help ensure financial stability in retirement. By purchasing an annuity, you can guarantee yourself a fixed income that will continue for the rest of your life or for a set period of time.
While annuities may seem like an attractive option for those looking to secure their financial future, there are several downsides to consider. One of the biggest drawbacks is that they can be quite inflexible. Once you've committed to an annuity, it can be difficult or even impossible to get out of it without paying hefty fees.
Additionally, the fees associated with annuities can be high, eating away at your returns over time. And while annuities are often marketed as a way to ensure a steady stream of income throughout your retirement, they can be complex and returns can fluctuate for certain annuities. This is why financial gurus like Dave Ramsey and Suze Orman aren't fans of annuities. However, Orman does believe that a single premium deferred annuity (SPIA) may make sense for some people.
There are several types of annuities, but the type that Orman mentions in her podcast are single premium deferred annuities (SPIA). A SPIA will have you pay a lump sum of money upfront, and in return, you receive a steady stream of income at a later time. Here are four reasons why Orman believes SPIAs are worth considering.
1. Tax benefits
Annuities provide tax benefits to those looking for a guaranteed monthly income. SPIAs allow you to make contributions to a tax-deferred account without the limitations of a 401(k) plan or IRA. These plans have contribution limits, and Roth IRAs have income limits.
Typically, the growth of a tax-deferred investment will be greater than that of a taxable investment. This is because you have more of your money working for you since Uncle Sam doesn't take his cut of it every year. You instead pay taxes on the portfolio gains when you take your money out.
2. Guaranteed rates
Interest rates on SPIAs tend to be higher than those of the best CDs and Treasury notes. These are guaranteed and cannot go below a certain minimum. SPIAs may be a good fit for those who need a higher income than what is provided by a straight interest-bearing investment.
Orman states that you should only look for SPIAs where the term for the guaranteed rates last as long as the surrender period. Surrender periods typically last seven to 10 years, and the early withdrawal penalty can be as much as 10%. You do not want to get a SPIA that only offers a high guaranteed rate for one or two years.
3. Current interest rates
The Federal Reserve's recent interest rate hikes have been the fastest cycle in over 40 years. With interest rates approaching 20-year highs, many insurance companies are offering very favorable rates that are guaranteed. This is one of the reasons why Orman states SPIAs are great options when interest rates are higher.
The perfect time to have purchased an immediate annuity, for example, with respect to interest rates, would have been in the 1980s, when interest rates were as high as 20%! You did not want to invest in SPIAs in the 2010s, when interest rates were close to 0%.
4. Benefits for older investors
Orman states that SPIAs are usually a much better choice for people who will be 59½ or older in the year that the surrender charge is up. If you are under 59½ and take distributions from your SPIA, then you will have to pay a 10% penalty on any gains. You may also have to pay state penalties. In addition, retirees are typically in a lower tax bracket than when they were working. Orman states that SPIAs can therefore take the place of CDs or treasury notes to help provide income in retirement.
Many people think that Suze Orman "hates annuities," but she concedes there are circ*mstances where they do make sense. In particular, single premium income annuities work well for those who want to have consistent income during retirement, protect their investment principal from market fluctuations, and feel that they will be in an even lower tax bracket during retirement. While annuities aren't the perfect product for everyone, if you assess your personal finances and do your research, you may find that annuities are the right addition to your retirement portfolio.
