The Variable Annuity versus The Mutual Fund

Many financial and investment articles compare the features of the fixed annuity to a mutual fund. On the other hand, the variable annuity experiences market risk just as a mutual fund; therefore, this provides us with a fairer comparison.

The variable annuity takes a lot of criticism, because individuals pay ordinary income taxes on withdrawn earnings. Also, the variable annuity is subject to stringent tax rules including the early withdraw penalties before age 59 1/2 with a few exceptions, even if the retirement plan is classified as a non-qualified account. In contrast, a mutual fund manager can sometimes determine the classification of a paid dividend. If the gain is considered a short-term capital gain in a mutual fund, this amount will be taxed as ordinary income; otherwise, an individual would be required to pay taxes for a long-term capital gain.

There is much debate concerning the high expenses associated with the variable annuity. Most variable annuity plans average a "mortality and expense" charge of about 1.2% a year and each selected separate account may add another .8 % to .9% a year for administrative costs. Mutual funds expenses are made of sales charges and 12(b)1 fees. Some mutual funds require you to pay a sales charge upon purchase of it, while others require a number of years to pay off its sales charge. There are mutual funds that possess no sales charge. There mutual funds are called no-load mutual funds. Regardless of the mutual fund, you will have to pay internal fees that may include management and 12(b)1 fees. On average, the yearly mutual fund fees may be .75 to 1.3%, depending on the fund. You may be wondering why anyone would use a variable annuity for retirement planning? Actually, this is for you to decide. F.Y.I., those investment specialist crying about an annuities' surrender charges should never sell B-share mutual funds, because there is not much difference.

The news for the variable annuity is not all bad? Let us say two people invested $20,000 in a variable annuity and the other in XYZ Mutual Fund. Both of these people die before spending a dime of their retirement. At the time of death, each person possesses $14,000 in their account. Whose beneficiary will get the most money? If the variable annuity comes with a death benefit that guarantees the original investment minus withdraws, the person with the variable annuity will leave more money for their beneficiary. However, there are many other things to consider, including the tax rules regarding non-qualified annuities and surrender charges. You will need to decide which is a better retirement investment for you. The most important thing you can do is something, instead of nothing at all.

Disclaimer: The information in this article should not be construed to be insurance or investment advice. Always consult a financial or insurance professional or tax accountant to determine what coverage is right for you.