Variable annuity is a popular type of annuity product. It is a tax-deferred investment vehicle, wherein the returns are determined by the movement of the value of the underlying security. Underlying security could be stocks or commodities. Hence, this type of annuity is called variable annuity. Variable annuities are designed to gain from the rising securities market and boost the savings by ensuring long-term capital growth.
§ Nature of variable annuities
Variable annuities involve a higher risk since the payouts or returns are not guaranteed. It depends on the degree of volatility of the securities market. It may yield better returns than its counterpart, viz. the fixed annuity. But when the market conditions become unfavorable, returns are bound to decline. Thus, variable annuity works on the equation of ‘high risk-high returns’.
§ Who should invest in variable annuities?
Variable annuities are a suitable investment option for the clients who do not need payouts in short-term. Early withdrawals may attract substantial charges from insurance company and hefty taxes. It is not advisable for the clients that have already retired or nearing their retirement age with limited funds, to buy a variable annuity. Furthermore, the desired amount of investment and client’s risk appetite needs to be substantial to earn decent returns. A person who has gained all the possible benefits from the IRA and 401(k), and has additional funds can buy a variable annuity.
§ Types of variable annuities
1. Variable life annuity
This type of variable annuity provides the client protection against the possibility of outliving his funds in the later life. The client receives the payout throughout the years of his life, until the event of his death. After the death of the client, the payouts may cease, or the beneficiary may continue receiving the funds.
2. Variable deferred annuity
When a client opts for a deferred variable annuity, his funds stay invested in the chosen stocks and commodities for a period of time before the client begins to withdraw the payouts. The funds grow tax-deferred. This type of variable annuity is suitable for the people who do not need funds in the short term and can stay invested for a longer period of time.
3. Variable immediate annuity
When a client chooses to invest a lump sum in a variable immediate annuity, he starts receiving the payouts immediately as soon as the investment is made.This type of variable annuity is suitable for the clients that have retired or are about to retire and will need funds in the short term. However, as mentioned earlier, this type of annuity may attract a higher amount of charges and taxes, as it involves early withdrawals.
4. Hybrid annuity
Hybrid annuity, as the name suggests, is a combination of features and benefits of both fixed and variable annuities. It is a blend of safety offered by a fixed annuity and potential for growth offered by variable annuity. The client invests his funds in the fixed as well as the variable components of the annuity, simultaneously.This type of annuity protects the client against the loss of principle amount. If the amount invested in the variable component grows due to the rise in securities market, the gains are credited to client’s account. If the securities market falls, the benefit of fixed component comes into picture. The client is not only protected against losses due to the fall in the securities market but also gets a guaranteed payout from the fixed component of the annuity. It also provides the death benefit to the heirs of the client in case of event of client’s death.
So these are the types of variable annuities depending upon their time of payout, liquidity options and risk involved. In the upcoming post we will talk about the tax implications on the variable annuities.
