Annuity Disadvantages

Potentially High Fees

Some types of annuities have the potential to hit you with high fees. Variable annuities in particular — which operate more overtly as investments and run the risk of losing money, unlike other common types of annuities — can include a hefty number of fees.

According to the U.S. Securities and Exchange Commission, variable annuities include additional charges, such as administrative fees and mortality and expense risk charges. These can eat into the overall value of your product. Mortality and expense charges can be in the ballpark of 1.25% per year, while administrative fees often fall around 0.15%.

When exploring an annuity, it’s important to understand the different options available and their relationship to fees.

Some types of annuities have few fees associated with them. For example, multi-year guaranteed annuities (MYGAs), which allow your money to grow at a fixed interest rate for a set period, typically do not include high fees.

As I design a financial plan for a client, I use products that best fit their needs and goals. Annuities many times are a good fit, but then there are times they are not a good fit. I always discuss advantages and disadvantages and make sure my clients understand. I recently had a client that had money in a CD and wanted to buy a MYGA as rates are higher, and he won’t have to pay taxes as it grows. However, he told me that he needs to use the money while in the annuity phase and I advised him that annuities are not liquid and have penalties for taking out more than 10% in his case. I deterred him and advised him to keep his money in a bank, if he needs it liquid.

Aamir M. Chalisa, MBA, LUTCF, MDRTGeneral Manager at Futurity First Insurance Group

Aamir M. Chalisa is the GM at Futurity First, leading Oak Brook’s top branch. With 30+ years’ expertise, chairs GAMA Global, driving diversity worldwide.

Limited Liquidity

When considering an annuity, you must decide how much of a financial commitment you are willing to make to the product.

This is because, once your annuity is issued and you have provided your funds, it can be difficult or impossible to retrieve them before the agreed-upon term ends.

When comparing annuity products, look at how they handle early withdrawals. Most products have a surrender schedule, laying out the penalty you will face for taking out money early at different points in the contract.

Some annuities include a 10% free withdrawal feature, allowing you to withdraw up to 10% of the value of your contract without having to pay a penalty.

Additionally, many annuity contracts include provisions that allow you to withdraw the full value of the contract penalty-free if you enter a nursing home or are diagnosed with a terminal illness.

Losing Purchasing Power Due to Inflation

When converting your annuity into guaranteed lifetime payments, consider not only how they benefit you now but also their value in 10 or 15 years.

Annuity payments are often fixed, meaning you receive the same amount at whatever interval you have chosen (monthly, biannually, etc.) for as long as you’re alive. This means those payments will lose value over time as inflation continues.

One option to consider is adding an inflation rider to your contract, a feature commonly offered by annuity carriers.

With an inflation rider, you can structure your contract so that your payments will grow by a few percentage points each year, helping to keep up with the rate of inflation.

Keep in mind that, with most companies, an inflation rider restructures your contract rather than providing additional funds. For example, your initial payments may be smaller than they would be without the rider, allowing for growth later on.

Complexity of Products

Many customers can be confused by the complexity surrounding annuity products. Part of the reason for this confusion is that the term “annuity” applies to a diverse group of offerings that operate in very different ways.

The ideal customer for a variable annuity and the ideal customer for a SPIA may have little in common with one another.

Getting a handle on the many different types of annuities and understanding which option makes the most sense for you can take time.

Annuities also allow for a high amount of customizability within the contract itself. This can be a major benefit for a customer who knows what they’re doing or who is working with a financial advisor, but it can also add confusion for someone who simply wants to make a purchase.

Working with a financial professional or insurance agent can lessen some of this burden, giving you the chance to lean on their expertise and ability to narrow down your choices.

Drawn Out Buying Process

Some financial investments are relatively simple transactions that don’t take long to purchase.

This is generally not the case with annuities.

Due to the complexity of these products and that major funds transactions are often involved, it can take some time to fully set up your annuity.

You also likely will have to share in-depth financial information during the buying process. It’s important to understand that this is legally required for your safety.

Annuity carriers follow suitability standards, meaning they must verify an annuity product you are interested in makes financial sense for you before they’re allowed to sell it to you.

This helps you avoid scams or buying a product that you didn’t actually need. However, it can slow down the buying process.

Access to Information

Access to information on annuity products can vary widely from carrier to carrier, sometimes making comparison of products difficult.

Some companies provide in-depth information and brochures that are easily accessible online, so you can learn everything you might need to know about a product before reaching out.

Other companies, particularly smaller players in the market, may not be as forthcoming and require you to contact them directly or get in touch with an agent to access the same level of information.

This is another situation where working with a financial professional can help. Advisors often have access to product data that is not publicly available and can provide you with insight into different carriers from their experiences in the industry.