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Americans Overwhelmingly Lack Knowledge About This Key Financial Product

By Maurie Backman - Updated Mar 18, 2019 at 3:15PM

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Hint: It could come in handy for your retirement.

The scary part of retirement is not knowing whether your savings will last throughout your golden years. In fact, for many seniors, the fear of running out of money trumps that of actual death. That's why it pays to consider an annuity in the course of your financial planning for retirement. Though annuities aren't perfect, they can provide the peace of mind that comes with knowing you'll be getting paid for life.

Many Americans stay away from annuities, and the reason often boils down to a lack of knowledge about how they work. In fact, in a study of Americans aged 50-75 with at least $100,000 of investable assets conducted by the American College of Financial Services, 86% could not pass a basic annuity quiz. Furthermore, 25% of participants could not answer a single quiz question correctly. Not only that, but among annuity owners, only one-third actually felt knowledgeable about the product they bought.

Older man holding a phone


Of course, annuities are fairly complex, so this lack of knowledge isn't all that shocking. Still, it's worth learning more about annuities -- especially if you're worried about outliving your savings in retirement.

Annuities: a mixed bag

An annuity is a contract you sign with an insurance company. In exchange for a lump sum payment, that insurance company agrees to pay you a certain amount of money for life. Those payments might begin right away, or at some point in the future.

Now that probably sounds like a good investment in theory, but not so fast. The problem with annuities is that they can be costly. First, the folks who sell annuities snag commissions for doing so, which means that you, as the buyer, will bear that cost. And that cost can be substantial, with commissions commonly coming in around the 10% mark.

On top of that, you'll generally be charged an annual fee to manage and administer your annuity. Granted, your IRA or 401(k) is probably loaded with investment fees, too, but your annuity fees might be higher. There are also surrender charges to worry about, which can be as high as 7% initially -- but those only apply if you try to back out of your contract after signing it.

Of course, the specific costs of your annuity will depend on a number of factors, such as the type of annuity you buy and who you buy it from. But costs aside, the key benefit of getting an annuity is guaranteed income -- something your IRA or 401(k) won't give you. That said, an annuity is only as good as the insurance company behind it, so you'll need to vet your options before diving in.

Another good thing about annuities is that unlike the money in your IRA or 401(k), it's not on you to keep tabs on that investment. Once you sign your annuity contract, you get to sit back and collect income for life, whereas you'll need to constantly review your IRA or 401(k) in retirement to make sure the assets contain therein are properly allocated.

So is an annuity right for you? If you want a guaranteed stream of income in retirement, it might be. Keep in mind, however, that you're usually better off maxing out your IRA or 401(k) before funding an annuity. But if you have extra money to invest, an annuity could be the right choice, especially if you're smart about selecting a highly rated insurer.

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