What they haven’t told you about annuities

Factors to consider before purchasing an annuity ¹ to add to your retirement income and expand your portfolio to meet your financial goals.

Many are looking for options to invest and expand their retirement income. For some, the search starts as their retirement date comes closer, while others midway through their professional career, as they begin to earn a higher income.

An annuity is a contract issued by an insurance company, designed to accrue money for a selected term and provide a guaranteed stream of income for a specific period or for life. They are generally designed for people who are ten years or less from retiring.

“Since 2010, more Puerto Ricans are increasingly choosing annuities as part of a strategy to expand income sources,” says Javier Rodríguez, President of Popular Risk Services, an insurance producer and subsidiary of Popular, Inc.

Types of annuities

There are two types of annuities:

• Immediate
• Deferred

Immediate annuities allow the client to contribute a certain amount of money to the insurance company, and in turn, the company promptly agrees to provide a monthly stream of income for life. The monthly payments are part interest and part return on the principal or original invested amount.

Meanwhile, deferred annuities allow the client to contribute a lump sum to the insurance company and then decide whether they want to start receiving the monthly income immediately or to defer those monthly payments for months or years later.

“Deferred annuities are the most popular in Puerto Rico,” Rodríguez explains.

The three types of deferred annuities are:

• Fixed²
• Indexed³
• Variable⁴

“The difference lies in how the capital grows during the accrual period and range from the most conservative to the most aggressive,” Rodríguez notes.

Fixed annuities are the most conservative as they involve the least risk by guaranteeing a fixed interest for the contract term, which may range from three to ten years.“When the term expires, the insurance company can change the interest rate to the prevailing market rate. At that time, the client may withdraw all the money without any penalties, but they are not required to do so,” the executive explains.

In the case of indexed annuities, their return is linked to the performance of market indexes such as the S&P 500, which tracks the performance of the 500 largest companies in the United States. However, the principal provided by the client is protected because it only participates in the index gains, not in its losses. “The market index growth is evaluated, and the interest is paid up to an established maximum rate,” he remarks.

As for variable annuities, they have greater growth potential but also a greater risk of suffering losses since the money provided is invested in the stock market exchange through mutual funds. This means that the principal may increase or decrease based on market fluctuations.

Factors to consider when selecting an annuity

In addition to annuity types and interest rates, there are other factors that the client must consider when making their selection. According to Rodríguez, one important factor is whether the insurance company with which the contract will be signed is located in Puerto Rico or in the United States.

For example, in the event of death, annuities in companies domiciled on the Island are considered a Puerto Rico asset; therefore, they are not subject to federal estate taxes. However, the annuities in companies in the United States are considered domestic U.S. assets; therefore, they may be subject to federal taxes.

The company's financial strength is another important factor, especially if you choose to purchase annuity endorsements or riders, which are additional protections or guarantees.

“The most popular one is the lifetime income rider, which allows the client to receive a fixed income for life without losing access to the principal, and if the principal was to hit zero, the rider permits you to keep receiving the stipulated monthly payment for the rest of your life,” Rodríguez mentions.

Clients should also look at the applicable penalty periods for each annuity, since there are periods when customers may be required to pay a penalty if they wish to make a partial withdrawal greater than the amount allowed.

Benefits of annuities

Rodríguez outlines the advantages of annuities:

• Stable income: An annuity can provide a regular and steady income by making scheduled disbursements over a certain period, which can help people plan their budget and spending.
• Diversification: Annuities can be a way to diversify an investment portfolio⁵ since they can offer a constant flow of income at times when other types of investments do not.
• Security: Some annuities are guaranteed by an insurance company, which means that even if the economy takes a dive, the annuity holder will continue to receive their payments as scheduled.

“Annuities are complex instruments that offer many alternatives and benefits to clients. That is why it's important for clients to consult a trustworthy financial professional that will guide them and help select the product that best fits their financial needs and objectives,” said Marla López, Senior Vice President and Division Manager of Popular One, a division of Popular that offers Financial Planning, Private Banking, Insurance and Investment brokerage services through Popular Risk Services and Popular Securities.

If you want to learn more about annuities, at Popular Risk Services we are ready to assist you. Contact us at PRSsales@popular.com or by calling 787-213-0118, Monday through Friday, from 8:00 a.m. to 5:00 p.m.