What Are the Disadvantages of Investing in an Annuity?


What Are the Disadvantages of Investing in an Annuity

What are the disadvantages of investing in an annuity?

First, let’s examine what we mean by “annuity”. Dividend.com describes annuities as saying a customer purchases an annuity plan using a single big payment or smaller sets of contributions. “The financial institution distributes money back to you for a certain time frame, depending on what kind of annuity you purchase. The money you put in grows through various investments made by the financial institution.”

You may purchase “immediate” annuities where monthly payments happen right away, but there are also deferred annuities where “the principal is held for a certain period of time before being distributed back to you”.

Disadvantages Of An Annuity

We could spend a lot of time discussing certain disadvantages of annuities including penalties for early withdrawal–you have to make a serious commitment with your money for this type of investing. Taking your money out of an annuity early could cost as much as 20%. Another disadvantage?

How about being offered a “teaser rate” for a high-yield annuity but with a fine print that indicates that this rate ends after the first year? If you don’t read the fine print, you could easily make the mistake of assuming the intro rate is permanent. Don’t get burned. Annuities also feature added fees and other expenses that are not necessarily part of other investment products.

But let’s leave these aside for a moment and discuss the elephant in the room when it comes to disadvantages.

Annuity Sales And Commissions

One of the big problems some thoughtful consumers have with investments including annuities is any situation where you are hiring someone to give you investment advice and that person works on commission.

A commission-based investment advising business model seems to many potential customers like a serious conflict of interest. How is a financial institution supposed to give you sound investment advice when the paycheck of your advisor is dependent on making the sale with you? And before you ask why this is a problem, there are some headlines you should consider.

A 2003 Marketwatch.com report notes that one prominent investor gave notice that he was closing his Charles Schwab investment account, “after finding out in recent weeks that Schwab, billed as the friend to the little guy, gave sweetheart deals in recent years to institutional clients at the expense of small-time investors”.

That seems, in the minds of some, to be a clear case of conflict of interest.

And let’s not ignore the advice of one annuity blogger (Stan “The Annuity Man” who wrote the book The Annuity Stanifesto) who warns, “A common practice I have heard recently is for agents to tell you that ‘I never charge you a fee’ or “you pay no commissions.”  I hear annuity radio and TV ads fraudulently say this all of the time.  This is nothing more than the agent playing word games and trying to make the potential annuity transaction sound too good to be true, or at a minimum… more palatable.”

The biggest disadvantage of ANY investment, up to and including annuities, is the danger of being steered wrong by someone who has to earn a commission off you to get paid.