Annuity Insurance Plans: What Is It and What You Should Know

This was originally posted on Planner Bee.

In Singapore, where cost of living is relatively high and life expectancy continues to increase, many people are keen to find reliable solutions for financial security in their golden years.

You might have heard friends bring up annuity insurance policies when retirement is being brought up, but are unclear what they actually are.

Simply put, it is a policy in which you pay a sum of money now and gets you a regular stream of payout in your later years.

Here, we will delve deep into what an annuity plan is, the types of policies available, and the pros and cons of such a plan.

Firstly, what is an annuity plan?

An annuity is a type of insurance policy that provides a regular stream of income for as long as you live, or for a stated period, usually at least until the age of 100.

The monthly or annual income you get can be made up of guaranteed and/or non-guaranteed components. An immediate annuity can begin income-for-life payments within a year of the purchase, or payments can be postponed to the future with a flexible premium deferred income annuity.

What kinds of annuity plans are there?

Immediate annuity

Like its name suggests, an immediate annuity starts payouts right away. If you need a guaranteed income immediately, or within the next 12 months, an immediate annuity is a good option.

After you provide the insurance agency with a single, lump-sum payment, they will start distributing a fixed sum to you based on a predetermined schedule (for a selected period or life).

Deferred annuity

A deferred annuity begins paying out later in life and you will get bigger payouts since your money has more time to accumulate investment gains.

Fixed annuity

A fixed annuity provides regular, guaranteed payments over a set period or for the rest of your life. Your money grows at a fixed interest rate determined by the insurer, and the amount you receive doesn’t change, nor will the payout be affected by market fluctuations, making it a safer option compared to variable annuities.

Variable annuity

A variable annuity allows you to choose where to invest your premium, such as in mutual funds and bond funds.

Depending on the provider, the annuity might provide a guaranteed minimum return and/or cap the maximum amount of growth. That means your investment returns or payments may never fall below a certain level (or go above a certain level). Some plans that promise higher earnings also carry more risk.

If you want to invest your money over the long term and want to take advantage of the highs and lows of the financial market, look at variable annuities.

Why people buy annuity plans

Retirement planning

An annuity plan can provide a steady and regular stream of income. Some countries provide a basic form of annuity via their social welfare policies. In Singapore, CPF Life is a form of an annuity plan, but it is typically insufficient to sustain most people’s entire retirement lifestyles.

Fixed and variable annuity plans are great options for people thinking about their eventual retirement if it’s still some decades away, while immediate annuities are good for those nearing retirement who want income right away.

Read more: A 5-Step Plan to Investing for Retirement in Singapore

Estate planning

Some people want to provide their beneficiaries with a stream of income, instead of giving them a lump sum and worrying that they will spend it unwisely in a short amount of time. It also allows people to pass their wealth on to the next generation without the hassle of going through probate.

They’re non-taxable

Real estate investments incur property taxes and sellers’ stamp duties. In the case of US equities, capital gains taxes are also imposed.

On the other hand, all annuities received in Singapore are not taxable (for example, CPF LIFE Scheme payouts) unless they are received from the following sources:

Source: IRAS

Pros and cons of annuity plans

Pros

1. Guaranteed income source (doesn’t apply to variable annuities)

For fixed annuity plans, they provide a stable and predictable income, ensuring financial security during retirement. Annuities also protect against longevity risk, which is the risk of outliving one’s savings. This is particularly important in Singapore, where people are living longer and healthier lives.

However, this is not the case for variable annuities as they are riskier because they do not always offer a guaranteed income.

2. Ease of money management

With most of us living out a longer period in retirement as a result of longer lifespans, the risk of loss of mental faculties is a real problem.

With annuities, this provides a stable stream of income without the need for complicated management that investing in stocks and funds and even real estate requires. With an annuity, we can be assured of a stable income stream without worry.

3. Customisation options

One can choose between immediate, deferred, fixed, and variable annuities to match your financial goals. You can also pick and choose between available add-ons such as inflation protection, long-term care, or death benefits to better match your financial goals.

4. Tax benefits

You don’t pay taxes for what you earn in annuities until you cash them out in your golden years. Retirees are usually in a lower tax bracket as compared to when they were working so when they start withdrawing their payouts, they could enjoy lower overall tax liabilities.

5. Capital guaranteed

Regardless of the type of annuity you choose, all retirement annuity plans are capital guaranteed. This means you or your descendants will get back the money you paid for upon maturity, even if you pass on before it matures.

Cons

1. High fees

Annuities can come with various fees, including investment management fees, administrative fees, mortality and expense risk charges. These can eat into your potential returns in the long run. Withdrawing funds early can also result in significant penalties.

2. Liquidity issues

Annuities are generally illiquid investments. You cannot easily access your money prematurely without penalties, which can be a drawback in case of unexpected financial needs.

3. Inflation risks

With fixed annuities, the payouts remain the same over time. This means that your returns might not keep up with inflation, unless you opt in for an inflation rider.

4. Market risks

Variable annuities might reap higher returns compared to fixed annuities, but they expose you to market risks, meaning your payouts can decrease if the investments perform poorly.

Like any financial product, annuity insurance plans offer a mix of benefits and drawbacks. They provide financial security and guaranteed income, which can be invaluable during retirement. However, they also come with costs and limitations that require careful consideration.

By carefully evaluating the different types of annuities, understanding the associated costs and benefits, and considering how these plans fit into your overall retirement strategy, you can make informed decisions to ensure a comfortable and worry-free retirement.

Consulting a financial advisor can also help you tailor the right annuity plan to meet your specific needs and ensure a comfortable and secure retirement.