Personal Finance Best Practices

In A League of Its Own:
Variable Annuities Offer A Wealth of Benefits
Submitted by Clinton W. Sallee
Published: November / December 2008

As today’s challenging economic environment continues to stir up Americans’ retirement nest eggs, there’s a greater demand for investment vehicles that provide an opportunity for stability and support long-term needs in retirement. While annuities have been around for decades, investors are increasingly looking to this tried and true investment option to convert their nest eggs into a reliable source of lifetime income.

Although it’s possible to outlive the assets in other retirement savings vehicles, one cannot outlive the income stream of a life income annuity–one of the most appealing, yet overlooked, features of an annuity. Another plus: you can make unlimited contributions into a personal non-qualified annuity with after-tax dollars while earnings accrue tax-deferred until withdrawn at retirement. Variable annuities are designed to be long-term investments to meet retirement and other long range goals, so keep in mind that money withdrawn before age 59 ½ could incur a 10% IRS penalty.

With all the investment choices available today, why should investors put money into a Variable Annuity as opposed to other investment alternatives? And, how does current tax legislation factor into the equation? As a retirement savings alternative, variable annuities offer a multitude of advantages, including:

• tax-deferred growth

• a guaranteed benefit at death

• guaranteed lifetime income options

• portfolio rebalancing is tax-free within a variable annuity

In addition, most variable annuities give investors numerous combinations of investment choices (stock, bond and guaranteed interest funds) and investment styles. This provides individuals the opportunity to diversify their portfolio in order to lessen the effects of market volatility.

The Case for Annuities

The current tax legislation (passed in 2003) reduced the tax rates for capital gains and dividends. Here are items people should keep in mind when considering annuities:

Long-term financial growth. Most investors’ financial strategies focus on long-term growth, especially when preparing for retirement. On one hand, under current law, the tax treatment of dividends and long-term capital gains is only 15%. On the other hand, the current tax law is scheduled to sunset in 2011 at which time the long-term capital gains tax rate reverts back to 20% and dividends will again be taxed at ordinary income tax levels. Therefore, investors take note: the effect of short-term tax changes should not be over-weighted in developing a long-term investment strategy.

Diversifying your portfolio. Another consideration is the ability to fully diversify your investment without incurring the additional cost of missing breakpoints. Some companies offer only one predominant investment style, depending on their investment philosophy. Because growth and value-oriented investments perform differently over time, mixing styles in a portfolio may help lessen the overall impact of market volatility and increase investor confidence. However, employing more than one investment style may require investors to spread their money across multiple channels. Investing across fund families to diversify among multiple manager styles may mean missed breakpoints and the opportunity to reduce acquisition costs. Conversely, variable annuities allow investors to choose from a variety of fund choices and diversify among multiple investment firms, portfolio managers and investment management styles. This allows you to benefit from such styles as growth and value at the same time without having to meet separate breakpoints.

Maintaining the right asset allocation. Many financial experts recommend rebalancing investments to match your financial objectives at least once per year. Because asset classes perform differently, a portfolio can stray from its original asset allocation over time. Under current tax law, an annuity allows for asset transfers without tax implications. Many variable annuities offer a rebalancing feature that keeps the annuity’s asset allocation consistent with the investor’s risk profile by automatically reallocating assets at regular intervals such as monthly, quarterly or annually.

Based on the ever-changing nature of investment alternatives, tax legislation and each investor’s personal situation, it’s a good idea to talk with a financial expert to decide which investments are most appropriate for one’s particular financial situation. It is also important for investors to note that the choice of one type of investment does not exclude another. For many, having both taxable and tax-deferred investment options within one’s total investment portfolio may be beneficial.

For questions about a specific annuity product, contact your insurance company directly or ask your financial representative.

This information should not be used as a basis for tax or legal advice. Your tax or legal advisor should be contacted for guidance regarding your specific situation. To contact Clinton W.Sallee, please call (727)656-0769, e-mail clinton.sallee@nmfn.com or visit his website at http://clintonsallee.nmfn.com or www.nmfn.com.

Mr Sallee is a Financial Representative with Northwestern Mutual Financial Network, the marketing name for the sales and distribution arm of The Northwestern Mutual Life Insurance Company (NM), Milwaukee, Wisconsin, its affiliates and subsidiaries. Financial Representative is an agent of NM. Securities offered through Northwestern Mutual Investment Services, LLC, member NASD and SIPC. NM is not a broker dealer.

back to top