The year 2023 saw a surge in annuity investments by American consumers, driven by higher interest rates and concerns about the stock market and the overall state of the U.S. economy. According to estimations by LIMRA, an insurance industry group, Americans have purchased approximately $360 billion worth of annuities this year. This figure surpasses the previous record of $311 billion set in the previous year, which itself had exceeded the previous high established during the 2008 financial crisis. Annuities are financial products issued by insurance companies that provide individuals with a regular income stream for life, similar to a pension or Social Security.
Financial planners often recommend annuities as a means of safeguarding against the risk of outliving one’s savings. However, not all annuities are equally effective at mitigating this risk. Carolyn McClanahan, a certified financial planner based in Jacksonville, Florida, and a member of CNBC’s Advisor Council, expresses skepticism about the majority of annuities available in the market. She argues that there are various types of annuities, and not all of them are necessarily beneficial for consumers.
The increased attractiveness of annuities in 2023 can be attributed to two main factors: higher interest rates and investor anxiety. The U.S. Federal Reserve’s decision to raise its benchmark interest rate to its highest level in 22 years had a substantial impact on the returns and income potential offered by annuities. This made annuities a more appealing investment option for individuals. Additionally, despite the stock market’s recovery from a challenging 2022, investors still harbor concerns about future inflation and the trajectory of the economy. This ongoing uncertainty has led many consumers to seek out safer investment options, such as fixed-rate deferred annuities.
Fixed-rate deferred annuities provide consumers with a secure investment option that protects their principal while offering a fixed return over a specific period. These annuities function similarly to certificates of deposit but provide higher average rates of around 4.5%, triple the rates from just two years ago. It is estimated that fixed-rate deferred annuities accounted for the majority of annuity sales in 2023, totaling approximately $140 billion.
There is often a discrepancy between the annuities that consumers choose to purchase and those recommended by financial advisors. Advisors typically suggest annuities as a hedge against longevity risk, which refers to the possibility of outliving retirement savings. An annuity can serve as a reliable income source to cover basic necessities such as food and housing once other guaranteed income streams, like Social Security and pensions, have been accounted for. Carolyn McClanahan, founder of Life Planning Partners, recommends single premium immediate annuities (SPIAs) to her clients. These annuities involve a lump-sum payment to an insurer, which then pays a fixed monthly sum to the buyer for the rest of their life.
SPIAs are considered the simplest form of annuities and are often recommended for individuals in their late 70s or early 80s, as they provide assurance for a potentially long retirement. Paul Auslander, a director of financial planning at ProVise Management Group, prefers SPIAs over other annuities when recommending income-generating options to his clients. Deferred-income annuities (DIAs) operate similarly to SPIAs but with a delayed payment start date. DIAs are typically purchased by individuals in their 60s, with the annuity payments beginning sometime in their 70s or 80s. While DIAs offer larger future income streams, they come with added uncertainty regarding when the funds may be needed. In the year leading up to September 30th, consumers bought $9.7 billion worth of SPIAs and $2.8 billion of DIAs. In comparison, indexed annuities and variable annuities were purchased for $71 billion and $39 billion, respectively.
Compared to SPIAs and DIAs, indexed and variable annuities are more complex and involve higher fees. Financial advisors caution that these annuities may not always align with the best interests of consumers. Additionally, insurance agents often have a vested interest in selling indexed and variable annuities due to their higher commissions. One key drawback of SPIAs and DIAs is that once consumers hand over their money to insurers, it is generally not refundable. Indexed and variable annuities, on the other hand, provide both potential future income streams and the option to access the initial investment if needed. However, they typically have higher costs and stricter rules regarding early access, which can result in financial penalties for breach of these rules.
The world of annuities can be challenging to navigate due to the variety of options available and the complexity of their features. Consumers must carefully consider their financial goals and consult with certified financial planners to determine the most suitable annuity for their needs. By understanding the different types of annuities, the risks associated with each, and the potential benefits, individuals can make informed decisions when venturing into the world of annuity investments.
Increasing interest rates and market uncertainties have driven Americans to invest a record amount in annuities in 2023. While annuities can be an effective tool for protecting against longevity risk, not all annuities are equally beneficial. Consumers should carefully evaluate their options and seek guidance from financial advisors to choose the annuity that best aligns with their financial goals and retirement needs.
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