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What Is a Variable Annuity?

Learn how variable annuities work and the pros and cons to help you decide if they’re the right fit for your financial goals.
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Published: January 16, 2025 | By TruWealth Advisors
WHAT ARE VARIABLE ANNUITIES?

Variable annuities are financial products designed to help individuals save for retirement and generate income. They are a type of annuity contract issued by insurance companies that allow you to invest your contributions into a selection of underlying investment options, typically mutual funds. Unlike fixed annuities, which offer a guaranteed rate of return, the value and income from variable annuities fluctuate based on the performance of the chosen investments.



HOW DO VARIABLE ANNUITIES WORK?

When you purchase a variable annuity, you enter into a contract with an insurance company, under which the insurer agrees to make periodic payments to you, beginning either immediately or at some future date. You contribute money—either as a lump sum or through periodic payments—into the annuity. This money is invested into a portfolio of funds you select, giving you the potential for growth.


Variable annuities have two phases:
  1. Accumulation Phase:
  2. During this period, your contributions grow tax-deferred, and you can adjust your investment allocation to align with your goals and risk tolerance.
  3. Distribution Phase:
  4. During this period, your contributions grow tax-deferred, and you can adjust your investment allocation to align with your goals and risk tolerance.

    Additionally, variable annuities often include optional riders like death benefits or income guarantees for an extra cost, providing a level of financial security.


DIFFERENCES BETWEEN VARIABLE, FIXED INDEX, AND FIXED ANNUITIES

While all annuities aim to provide retirement income and financial security, their features and risk profiles vary significantly. Variable annuities, fixed index annuities, and fixed annuities cater to different needs and risk tolerances, making it essential to understand how they differ.


As discussed above, variable annuities offer the potential for growth by investing in a portfolio of mutual fund-like options. Their value fluctuates with market performance, providing higher growth potential but also exposing investors to market risk. They appeal to those comfortable with market volatility and looking for potentially higher returns over time.


Fixed annuities, on the other hand, provide predictable returns with a guaranteed interest rate over a specific term. These annuities are designed for conservative investors seeking stability and protection from market fluctuations. With fixed annuities, your principal and interest rate are guaranteed, making them an ideal choice for those who prioritize safety and consistent income.


Fixed index annuities bridge the gap between the two by offering growth potential linked to the performance of a market index, such as the S&P 500, without direct market exposure. They provide a balance of safety and upside potential by offering a minimum guaranteed return alongside the opportunity to earn interest based on index performance, typically capped by a participation rate or ceiling. These annuities are suitable for individuals who want a measure of growth but are unwilling to take on the full risk of market volatility.



BENEFITS OF VARIABLE ANNUITIES
  1. Tax-Deferred Growth:
  2. Contributions grow without being taxed until withdrawals are made, allowing for potential compounding over time.
  3. Customizable Investments:
  4. You can select from various funds to tailor the annuity to your financial goals and risk tolerance.
  5. Guaranteed Income Options:
  6. Many variable annuities offer optional riders, like lifetime income benefits, to provide predictable retirement income.
  7. Death Benefits:
  8. In the event of the annuitant’s death, a variable annuity may guarantee a payout to beneficiaries.

DRAWBACKS OF VARIABLE ANNUITIES
  1. High Fees: Variable annuities often come with administrative costs, management fees for underlying funds, and charges for optional riders, which can eat into your returns.

  2. Market Risk:
  3. Since variable annuities are tied to the market, the value can decrease if investments underperform.
  4. Surrender Charges:
  5. If you withdraw money early, you may face significant surrender fees in addition to taxes and penalties.
  6. Complexity:
  7. The numerous features and options can make variable annuities difficult to understand without professional guidance.

NO OBLIGATION INITIAL CONSULTATION

At TruWealth Advisors, we are committed to helping you navigate the intricate world of annuities and retirement planning. Our team of skilled financial advisors can work with you to understand your risk tolerance and develop a personalized financial plan. Whether you are considering purchasing an annuity or simply interested in a second opinion, we are here to help. Contact us today for a no obligation initial consultation to explore options that best align with your personal financial goals.


Additional Resources

  1. Fee-Based vs. Commission Based Annuities: A Comprehensive Guide
  2. . https://www.twadvisor.com/articles/fee-based-vs-commission-based-annuities-a-comprehensive-guide/.
  3. What Is a Fixed Annuity?
  4. https://www.twadvisor.com/articles/what-is-a-fixed-annuity.
  5. What Is a Fixed Index Annuity?
  6. https://www.twadvisor.com/articles/what-is-a-fixed-index-annuity/.

Disclosures


Make sure you understand all the fees, expenses, charges, and any features or added benefits before making an annuity purchase.


TruWealth Advisors, LLC is an SEC registered investment adviser located in Louisiana. Registration does not imply a certain level of skill or training. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or financial advice. You should consult your own tax, legal and financial professionals before engaging in any transaction. Past performance does not guarantee future results. Additional information about TruWealth Advisors, including our registration status, fees, and services is available on the SEC’s website at https://adviserinfo.sec.gov/firm/summary/306876.

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