Too Focused On Stocks? Annuities May Be A Choice For Rebalancing

According to statistics recently analyzed by Fidelity Investments on its retirement account customers, 37% of Baby Boomers—those born between 1946 and 1964—have larger equity holdings than they should.

According to Fidelity, individuals in this age group should hold between 47% and 67% of their assets in stocks. However, a significant majority exceeded that.

Although there isn't one asset allocation strategy that works for everyone, experts concur that holding excessive amounts of stocks after a certain age might be dangerous. As you get older, the amount of time you have to bounce back from market declines decreases.

Reduce your holdings of stocks and stock funds. Annuities, bonds, and bank certificates of deposit (CDs) are among the fixed-income asset classes that generate an income stream. Take into account yield, guarantees, principle safety, liquidity, and taxes when making your decision.

For example, Treasury bonds and notes are well-liked because the US government guarantees them. If you hold a bond until maturity, you will always get your principal back; however, if you sell a bond before it matures, you may lose money. The price of Treasury bond funds fluctuates, so you can make or lose money when you sell them. Even while interest is taxable by the federal government (unless it's kept in an IRA or other eligible account), it's exempt from state tax.

Treasuries are less risky than corporate bonds, but they typically pay more. Federal income tax does not apply to municipal bonds, while state income tax does not apply to in-state bonds. They suit those in higher tax bands the best because they usually pay lower rates.

Bank CDs are well-liked because they are simple to purchase and come with a $250,000 federal deposit insurance guarantee (NCUA for credit unions, FDIC for banks), which covers both principal and interest. Also, there is typically a sizable penalty if you try to cash in a CD before it matures. Federal and state income taxes are payable on non-qualified CD interest in the year it is earned.

An annuity with a set rate may be a better option for some of your funds. The most common kind is the multiyear guarantee annuity (MYGA), which offers several years of fixed interest rate guarantees. Although it functions similarly to a CD-type annuity, there are a few significant differences.

Deferred taxes lead to increased compounding. Annuities in non-qualified accounts have the largest benefit over CDs: they are tax-deferred. As long as you retain the interest in the annuity, you won't be required to pay any federal or state taxes on it. Interest in your annuity multiplies and increases more quickly when taxes are not a burden. You can continue to get tax deferral when your current annuity expires by transferring the proceeds—through a 1035 exchange—to a new annuity.

Since interest in eligible retirement accounts—IRAs, Roth IRAs, 401(k)s, and the like—is already tax-deferred—or, in the case of the Roth IRA, tax-free—this has no bearing on them. Nevertheless, for an IRA or a Roth IRA, a MYGA can be an excellent option.

higher rates frequently. MYGAs frequently offer better rates than bank CDs for the same duration. Even while short-term CDs (six months to a year) pay more than 5% these days, if you want a longer guarantee, annuities typically pay more. As of late September 2023, for example, the highest rate available nationally on a three-year CD looks to be 4.75%; nevertheless, a three-year MYGA yielding 5.60% is available. An annuity can give you 6% if you want a guarantee for ten years.

Although certain bonds and bond funds offer higher current yields, they are usually classified as junk bonds or high-risk bonds, carrying more risk than desired. The objective of asset allocation is to minimize risk.

More penalty-free liquidity, generally. With CDs, you can normally take interest out without incurring penalties, but you'll likely have to pay hefty fees if you wish to access any of the principal before the CD matures. Banks differ in their penalty for early withdrawals.

More flexibility is provided by several MYGAs, which permit annual withdrawals of up to 10% of the account value without incurring penalties. (Retired interest is all taxed.) This may be useful if interest rates rise and you would wish to move that 10% to a higher-paying annuity tax-free through a 1035 exchange.

However, other annuities offer a higher rate in exchange for fewer benevolent withdrawal provisions. Surrender charges apply to almost all MYGAs when withdrawals exceed the contractual maximum. If the owner of the annuity suffers a terminal disease or stays in a care facility for a long time, some insurers may waive all surrender charges.

Unless you are completely handicapped, withdrawing annuity profits prior to turning 59½ is subject to a 10% IRS penalty. This is a crucial factor to take into account for non-qualified funds, but since you would typically keep money in an IRA past that age, it is not as big of a problem for IRA annuities.

Federal deposit insurance is absent. In this particular area, CDs are superior. However, if you pick well, I don't think it's a huge disadvantage of annuities.

State annuity guaranty associations are mandated by law to provide annuity buyers with protection, subject to specific limitations, even if federal deposit insurance does not cover annuities. States have different requirements and coverage limits. They are applicable to your own state.

Moreover, life insurers have a stellar history of financial stability and are subject to stringent governmental regulation. Morning Most annuity issuers are rated with a letter grade by Best. Though many firms with a B++ rating are deserving of consideration, some individuals feel more at ease working with only A-rated insurers.

There are other annuities besides MYGAs that can assist you in lessening your excessive reliance on stocks. Annuities with lifetime income and fixed index are also worthwhile to take into account.