“Should I buy an annuity with my 401(k) or roll my 401(k) into an IRA?” Many people struggle with the annuity vs. an IRA question as they approach retirement.
Before we delve into the pros and cons, it’s important to understand the nature of each type of retirement plan. Below are brief descriptions:
What is an annuity?
An annuity is a type of insurance policy where you make either a series of payments or one lump sum payment. When you retire, a typical annuity pays you a set amount for the rest of your life. Annuities are a way to ensure steady income if you believe you’ll outlive your savings.
What is an IRA?
This is a retirement savings account that allows you to invest in stocks, mutual funds, and other investment options. A traditional IRA is a tax-deferred plan, meaning you don’t pay taxes on contributions, interest, dividends, or capital gains until money is withdrawn from the account.
What is a 401(k)?
A 401(k) is an employer-sponsored retirement plan. Employees choose how much to invest in the plan, up to an annual contribution limit of $19,000, and employers have the option of matching contributions. Like an IRA, a 401(k) is a tax-deferred program.
Advantages of an annuity
- You have reliable, set payments for the rest of your life.
- You can choose between an annuity that ends with your death or with the death of you and your spouse.
- It’s possible to choose an annuity with a death benefit so heirs receive any remaining funds in the account.
Disadvantages of an annuity
- Inflation can reduce the buying power of your monthly payments over time.
- You have little say in the annuity’s choice of investments.
- You receive the same payment even when investments yield high returns.
- Fees can be high.
- The complex nature of annuities can be confusing.
Advantages of an IRA
- You control your investment decisions.
- You keep any gains made from investments.
- You can pass an IRA on to your children or spouse.
- You can choose the IRA best suited to your tax situation.
Disadvantages of an IRA
- You make your own investment decisions, which can be difficult and stressful.
- There are no guarantees when it comes to investment performance.
- Penalties for early withdrawal of funds can be high.
- If you don’t save enough, you can run out of money in retirement.
Should you buy an annuity with your 401(k)?
If you’re concerned your 401(k) has insufficient funds to see you through retirement, using the funds to purchase an annuity provides peace of mind and financial stability.
If you choose to do so, proceed carefully: The annuities market is complex. Many different types of annuities exist, with widely varying fees and limitations.
Consider the need for death benefits and whether the annuity will continue to pay out to your spouse should you pass away first.
Pro tip! Looking for a way to convert a 401(k) to an annuity? Calculators are available! Online annuity calculators help you determine the financial consequences of converting your 401(k) to an annuity. Calculators are also available to estimate the costs of rolling over a 401(k) to an IRA.
The bottom line
Choosing between an annuity vs. an IRA need not be an all-or-nothing proposition. You may choose to invest in both. And remember, many different types of retirement plans exist, each capable of helping you move into a financially secure future.