Many Americans' moving towards retirement explore annuities, which is an investment strategy that is issued by an insurance company and designed to help protect you from the risk of outliving your income. Some annuity products can be particularly enticing for individuals who want guaranteed income benefits. These payments may start immediately or at a later time, depending on the stage of life you're in. An investor should conduct their own research to ensure they know what they are buying and understand the annuity contract's fine print, terms, and fees.
How Much do Annuities Cost
The first thing you should know about having an annuity is that each company has its own fee schedule.
Generally speaking, the more complicated an annuity is, the more it will cost. The best way to keep these costs in perspective is to look at them as a percentage of the overall value of the annuity.
Here are a few specific fees you can expect to see in most variable annuity contracts.
Annual Administrative Fees
The administration charge is a typical service fee you might pay for an annuity. These costs could go toward basic annuity management, account services, and record-keeping. These costs are frequently assessed as a percentage of the overall value of your annuity or as a fixed amount.
Mortality and Expense Risk (M&E)
Unlike stocks and bonds, an annuity is an insurance product, which means that insurers must take measures to reduce their risk. They achieve this in part by charging fees for exposure to mortality and the possibility of an untimely death as well as the expense of paying advisor fees and risk mitigation of outliving your investment. These safeguards ensure that the annuity's cost to you remains constant regardless of changes in your risk profile. These costs will typically be between 1.00% and 1.50% of the total value of your contract.
Underlying Fund Expenses
Your account value in a variable annuity will grow in tandem with the performance of the underlying investments. Mutual fund, exchange-traded fund, and index-fund investments all may be options in the investment account. These funds all have annual costs associated with owning them, shown as expense ratios. The expense ratio is a cost of having an investment inside annuity contract, and can be difficult to account for since it is deducted directly from the value of the fund holdings. These rates are all over the map, but you will normally find the range for these investments to be 0.30% to as high as 2.5%.
At any time, you may want to sell all or a portion of your annuity contract for cash. This is doable, but you will likely be required to pay a surrender charge. These costs apply solely to any withdrawals made before the start of your recurring payments.
The provisions of your annuity will dictate whether or not you must pay a surrender charge and the amount of the fee. For example, if you remove money during any of the first ten years of your contract, an insurance company may assess a larger surrender cost. In general, however, insurance firms employ a falling fee structure. This means that the expense will decrease each year and ultimately vanish.
The insurance agent that sold you the annuity contract may be compensated with commissions. This is comparable to any other sales compensation, such as those some financial advisors that operate through broker-dealers could receive for recommending a certain investment product. Your insurance provider may include the commission in the agreement as opposed to laying it out in a detailed fee schedule.
The commission you're likely to pay may increase in direct proportion to the complexity of the features for your contract. As a result, more simple fixed annuities often have lower commission fees than a variable annuity with a wide range of investment options. You should expect your commission to never be more than 10%. It is important to note that there are structures to access annuities with zero commissions, and these are often found through independent registered investment advisors (RIAs).
Annuity Contract Riders
Every annuity includes its own set of predetermined features with the intention to help the client. Many insurance companies offer what are called "riders," which are extra features. For example, some riders guarantee a certain income payment for your lifetime while others may relate to certain death benefits.
You don't have to add annuity riders to your contract, but most are sold with these extra benefits, and they will cost you more money. These fees can range from being pretty small to being very significant. Before you decide whether or not to take a rider, you should think about how much the extra feature will benefit you in the long run.