When saving and investing for retirement, there are many things to consider to meet your financial goals. At Trust Point, we are here to educate and guide you to help you build wealth for retirement and we want to make sure your hard-earned money will work for you.
We are often asked “what’s the difference between annuities and mutual funds and which should I choose?” Ultimately, whether to invest in an annuity or mutual fund depends on your age, reason for investment, costs, and overall portfolio.
Let’s take a look at these investment options to give you a better understanding of which will better meet your financial goals.
What is an annuity and how are they used?
An annuity is a contract between a person and an insurance company. It’s making a deposit or paying premiums, even a lump sum or periodic payments, to an insurance company who is going to provide them future income at some point in time. You can use annuities in a number of ways.
Annuities are proper for certain people at certain times in their financial pathways. Individuals that use annuities often are more risk averse. They provide principal protection and slow, sustained, steady growth. They’re used for a way of a guaranteed income stream in volatile markets. Traditionally, investors are sold the idea that annuities are a safe and secure way to receive income in retirement, but there should be a buyer beware notice when considering if an annuity is appropriate for an investment portfolio.
What should you be aware of regarding annuities?
One of the biggest concerns with annuities are the unknown costs. Annuities are generally expensive with baked in commissions. The costs alone can be really restrictive to meeting goals in retirement or nearing retirement. With that in mind, let’s take a look at mutual funds and what advantages they provide retirees.
What is a mutual fund?
A mutual fund is a diversified way of investing in different parts of the market. It can hold stocks that can hold individual bonds or other securities. These are then traded on an open exchange marketplace and are very cost efficient. You’ll even have a manager who specializes in the area that they’re investing in.
What are the advantages of mutual funds?
One of the biggest advantages of a mutual fund is efficiency from a cost perspective. Another big advantage is that there are no surrender periods, so you can buy and sell mutual funds without incurring significant costs.
Mutual funds are not only an important part of a well-diversified portfolio, they are given special treatment by the IRS as part of an overall estate plan. Mutual funds held in a diversified portfolio receive a step-up in basis at the death of the account owner. This means if an account owner were to invest $25,000 in a mutual fund that had grown to $150,000 over 20 years and the account owner passed away, the heirs would not have to pay a single penny of taxes on the $125,000 in growth on the date of death – the $25,000 basis is stepped up to $150,000 eliminating any taxable gain. This is an incredible advantage of a mutual fund and is available to everyone.
When compared to annuities, the advantages of a mutual fund are clear. No commissions on mutual funds, reduced annual investment expenses, lower tax rates on investment gains for non-qualified accounts, step-up in cost basis at owner’s death, and the beneficiary receives the account balance at the owner’s death. So which investment option should you choose?
Deciding which option to choose
The first thing you should always look at is the cost structure. As we talked about, mutual funds are a much more efficient manner when investing in the market than annuities due to the transparency of the costs. Generally, with Trust Point’s diversified portfolios, we are able to manage them in such a way to keep those costs low when compared to annuities. There are no kickbacks or commissions that come back to people at Trust Point. Fully understanding each option is one of the most important steps when deciding where you’re going to invest.
Working with a Fiduciary
Navigating investment options and understanding varying tax and estate implications can be daunting. It’s a good idea to work with professionals held to a fiduciary standard. Trust Point’s Certified Financial professionals can help you choose whether an annuity or mutual fund is right for you. We’ll review your individual circumstances and help you make sound, informed decisions to reach your financial goals.
