Think Twice About Variable Annuities

Annuities — which are contracts allowing buyers to secure payments from insurance companies immediately or in the future — come in three main types: fixed, indexed and variable.

Fixed annuities are fairly straightforward, offering to pay a predetermined sum for a specified period. Indexed ones tie your payments to the performance of a stock market index. Variable ones let you invest money in your annuity account in securities such as mutual funds, with your payouts linked to their performance.

Indexed and variable annuities are more complicated, and the Securities and Exchange Commission (SEC) has issued cautions about them. Either could serve you well, but you should research them deeply before buying. Or just stick with fixed annuities.

Here are some things to know about variable annuities:

They tend to charge significant fees. There’s often a “mortality and expense risk charge,” which may be around 1.25%, and an administrative fee, as well. Those two fees alone could have you paying $700 per year on a $50,000 annuity.

Then there are fees for the securities in which you’re invested, such as mutual funds. A mutual fund might charge 1% or more per year, which could cost you an additional $500 or more on that annuity.

Variable annuities tend to feature “surrender charges,” too, if you want to withdraw a significant portion of your account within a few years of buying the annuity. The charge is usually a percentage of the amount you withdraw, declining each year — so if you took out, say, $10,000 early, you might have to pay $700 in the first year, or $600 in the second, and so on.

Variable annuities are sometimes promoted by pushy salespeople, and they might point out that your gains and income earned in the account will accumulate tax-free until you withdraw the money. That’s true, but it’s also true of traditional IRAs and 401(k) accounts. Some variable annuities may feature extra goodies such as some long-term care insurance or a guaranteed minimum income, but such features will come at a cost.

Learn more about annuities at Investor.gov.