Unsure About an Annuity? Questions to Ask Before You Commit

Hesitating before you sign off on an annuity is a reasonable instinct. Annuities are contracts with an insurance company, and they can lock up money for years, so it is worth slowing down when an adviser recommends one, especially in an uncertain market.

Annuities come in several broad forms. A fixed annuity pays a set rate for a set period, which makes it predictable but can lag inflation. A fixed indexed annuity ties returns to a market index, usually with a cap or a participation rate that limits how much of the gain you keep. A variable annuity invests in sub-accounts that rise and fall with the market, and it typically carries the highest layers of fees. Each one trades some combination of growth, safety and liquidity, and none of them is right or wrong in the abstract. The question is which trade-off fits your situation.

The contract details matter as much as the product type. Ask about surrender charges, which can keep you from withdrawing without a penalty for several years. Look at annual fees, rider costs for income guarantees, and how payouts are taxed. Find out what happens to the money if you die, and whether heirs receive the full value or only a reduced amount.

Just as important is how your adviser is paid. Some advisers earn commissions on annuity sales, which does not make a recommendation wrong, but it is a conflict of interest you should understand. Ask whether they act as a fiduciary, meaning they are required to put your interests first, and ask for the total cost of the product in writing. A fee-only planner with no stake in the sale can be a useful second opinion.

Before you commit, it helps to compare the annuity against simpler options such as a high-yield savings account, Treasury securities, a diversified bond fund or a low-cost index fund. Ask your adviser to show you how each one would perform under a few scenarios, including a bad market year and a period of high inflation. If the answers are vague or the pressure to decide quickly is strong, that is a signal to wait. Taking a few weeks to review the contract is usually time well spent.