Anyone who is familiar with annuities knows that they are considered to be a long term investment. Between the contract provisions and applicable tax rules, annuities rates should be held for the long term in order to optimize their benefits and maximize their tax advantages. But, people invest in annuities for many different reasons and to fulfill various types of investment objectives. So, the actual period of time they may hold an annuity may vary. To determine how long annuities should be held, really depends on individual circumstances.

How Long is Long?

Annuities have several features and provisions inherent in the contract that will dictate the minimum holding period for people. While annuities can be held for shorter periods of time, their costs, which include annual fees and surrender charges, can eat into the accumulate account to a higher degree, than if they were held for a longer period of time. And, any tax advantages gained in the early years can be largely negated by the payment of income taxes and a 10% IRS penalty if the withdrawal occurs prior to age 59 1/2. The holding period of an annuity is usually based on the investment need, the age of the investor and the specific withdrawal provisions contained in the contract.

For Maximum Tax Advantages

Annuities are purchased in large part due to their tax advantages. Funds that accumulate inside of an annuity are not currently taxed, so they can accumulate faster than an equivalent taxable investment. The real advantage of tax deferral is realized through the compounding of interest or returns over the long term that would otherwise be lost to taxes. Therefore, the positive effects of tax deferral are greater the longer the contract is held.

Many investors view the tax deferral as an offset to the annual expenses that are charged in annuity contracts. These expenses, charged as a percent of the account balance are highest in a variable annuity and lower in fixed and indexed annuities. In either case, they do come right out of the account balance which can obviously effect it growth. The tax deferral replaces those charges and much more as the growth compounds more quickly in later years. To really maximize the tax advantage, it is recommended that an annuity be held for at least 15 years, but, the longer the better.

Many investors hold annuities until they reach retirement age during which they anticipate a lower tax rate on their income. So, if they can defer income taxes during their high tax bracket years, and pay taxes at a lower rate, they have benefited even further from the tax deferral.

For Maximum Access to Funds

Most annuity contracts contain withdrawal provisions which provide investors with a way to access their account value at any time. In the early years of the contract withdrawals are limited to 10%of the account value without incurring a charge. Withdrawals that exceed 10% are charged a surrender fee. In most annuities, the surrender fee starts out fairly high, in the range of 7 to 12 percent. But, each year the surrender fee is reduced by a percentage point until they eventually vanish all together. So, with an annuity that charges a 7% surrender fee, the surrender schedule will run for at least 7 years, after which there is no charge for excess withdrawals. So, if maximum access to your annuity account is a concern, the minimum holding period of your annuity is the length of the surrender period. It is important to mindful that any withdrawal will reduce your account balance and slow down the compounding effect.

For Maximum Guaranteed Income

If an annuity is purchased with the intent to, at some point, convert it a guaranteed income, the holding period is based strictly on your timeframe for needing the income. When an annuity is converted to income the annuity owner doesn’t have to worry about surrender charges or IRS tax penalties (if annuitization occurs before age 59 ½). In fact, annuitization is one way to avoid immediate taxation on withdrawals and an IRS penalty if you are younger than age 59 ½. Because annuity income consists of both a return of principal and interest, only a portion of the income payment is taxed. So, in essence, your annuity earnings are tax deferred until they are received in the income payment.

When deferred annuities are purchased for income, they can be annuitized at anytime. So, the holding period is really based on when your need for income arises. Obviously, the longer you can defer your income and benefit from the tax deferred compounding of your returns, the more income your annuity will generate. One option might be to split your deferred annuity and convert a portion of it to income for a specified period of time and allow the balance to continue to grow. When the account balance on the income annuity is depleted, you can then annuitize the deferred annuity. In many cases, this strategy will generate more income from the same original annuity balance.


The ideal holding period for annuities is based on your financial objective or need. But, in all cases, your age is a factor (to avoid the 59 ½ penalty), your tax status is important (to maximize tax advantages) and your time horizon is your primary consideration (to maximize the tax deferred compounding). As a general rule, you probably shouldn’t consider investing in an annuity unless your time horizon is at least 15 years, and that is only if you’ll be over age 59 ½ in that period. Ideally, you can hold your annuity for at least 20 years which will produce the maximum benefits all the way around including the offset of expenses. One of the beneficial features of annuities is, that if your time horizon changes, or your circumstances require that you have access to your funds in the short term, they are available.

When looking for safe, stable investments with guarantees, investors have a choice between two vehicles that share several characteristics, but are markedly different in what they ultimately deliver: Bank CDs or CD annuities. Most people know what CDs are, and many are familiar with fixed annuities. Although they’re relatively new on the scene, their unique features and benefits have a lot of investors wondering just what are CD annuities.

CD Annuities Compared with Bank CDs

Essentially a CD annuity combines a fixed annuity contract with interest rate guarantees found in bank CDs. Most people know that they can go into a bank and, with a deposit of money, lock in a fixed interest rate in time deposit which is guaranteed for up to 10 years.  The longer the duration of the time deposit, the higher the fixed rate. The same concept applies to a CD annuity where longer maturities typically offer higher fix rates.  That is about where the similarities end. From there we explore some of the key differences in the two products which can produce very different outcomes.

Fixed Yields

A fixed annuity is a deferred annuity contract that includes an accumulation account. When a deposit is made to a life insurance company, it invests the funds with its general account which is a portfolio of high grade, short and long term bonds. From the yield it generates from the portfolio it credits the accumulation account with a portion of that yield. The yield is usually fixed for a period of time, from one year to ten years, after which it adjusts the yield based on its current investment experience.  One of the distinguishing features of an annuity is its tax treatment.

Bank CDs are also credited with a fixed yield, however, the yield is determined based on prevailing short term interest rates. Because they are more sensitive to short term interest rate movements, the rates offered on CDs tend to fluctuate more than the rates offered on fixed annuities. Also, because life insurers have the opportunity of generating higher yields in their bond portfolios, the rates they credit tend to be higher than the rates credited by banks on CDs.


Funds accumulating inside an annuity contract are not taxed currently enabling them to grow faster. They are taxed at ordinary income tax rates upon withdrawal, and if a withdrawal is made prior to age 59 ½, the IRS may levy a penalty of 10% of the withdrawal. Certain exceptions apply to that rule.

Interest accumulated within CDs are always taxable unless the CD is inside of a qualified retirement plan.

Guaranteed Rate Periods

The fixed rate guarantee period within a CD annuity comprises only a segment of the annuity contract term. In other words, if an annuity with a five year guarantee is purchased, the annuity contract remains in effect and the annuity owner is still subject to its withdrawal provisions. Following the guarantee period, the fixed rate is adjusted and guaranteed for one year periods. The other aspect of the guarantee period in an annuity is that it may be shorter than the fixed rate period. In other words, an annuity might offer a fixed rate for 10 years, but only guarantee that rate for five years.

At the end of a bank CDs guarantee period, the CD matures and the funds are either withdrawn or transferred into another CD.

Funds Access

A CD annuity contains withdrawal provisions which allow for annual withdrawals of up to 10% of the account value free of charge.  An excess withdrawal will trigger a surrender fee throughout the contract’s surrender period.  Typically, the surrender period lasts at least as long as the rate guarantee period so that, when the guarantee period expires, the annuity owner can make unlimited withdrawals (subject to income taxes and IRS penalties if applicable).

Bank CD are more rigid in that no withdrawals are allowed before its maturity without sacrificing the higher fixed rate. If funds are withdrawn (CDs don’t allow for partial withdrawals), the interest rate on the CDs earnings are adjusted down.

Guaranteed Income

A CD annuity can be converted into a guaranteed stream of income payable for life. Many annuities explained offer an inflation protection option which ensures that the income will keep pace with the cost-of-living index.

Bank CDs are also used to generate a safe income. The only problem, and key differentiator with annuities, is that, when one CD matures, it must rolled into another CD which may offer a lower fixed rate. In a declining interest rate environment a retiree could see his income drop over time.

Investor Safety

Annuities are considered among the safest of investments because they are backed by the financially stable life insurance companies which are very closely regulated by their state commissions. Insurers are required to maintain a high level of reserves and surplus capital to cover their obligations. Annuity owners have the added safe-guard of state guarantee funds which, depending on the state, covers annuity deposits from $100,000 up to $500,000.

Bank CDs have the backing of FDIC which, presently, covers each bank account up to $250,000 (one account per customer per bank). It is important to consider that, while  FDIC insurance is a federal program it is not backed by the full faith and credit of the U.S. government, meaning that the government has no obligation to bail out the FDIC should it become insolvent. The other consideration is that the FDIC maintains a bare fraction of the required reserves, so that a major run of bank failures such as was experienced in 2008 and 2009 could tax the capability of the FDIC to reimburse all of the banks customers. At the very least, bank customers may have to wait awhile to get their reimbursement.

Annuities are feature rich, but they are also geared towards long term investors who can afford to keep their money invested until they are at least 59 ½. Many annuity investors also maintain time deposit CDs for their more liquid needs. If your goals are more short term, or you haven’t accumulated sufficient liquid assets, CDs would be the better choice.

Thinking about an early retirement? You’re not alone. An increasing number of people are setting their sights on an early exit from the working world, which is a little surprising considering the economic and financial turmoil of recent years. In fact, many people are formulating specific plans for achieving early retirement , and chief among their strategies for accomplishing that are scaling back their current life styles, increasing their retirement plan contributions and reducing their standard of living expectations in retirement. A touch of frugality mixed with more aggressive savings sounds doable – difficult, but doable. But, if your truly have your sights set on retiring early, you may want to consider this phased strategy that employs annuities for more certain results.

The challenge in early retirement planning is that it requires setting aggressive target dates and committing to an ambitious savings plan, both of which are good and doable. The problem lies in the reliance upon the cooperation of the markets to get you there. That’s fine too, except, one bad streak in the markets, or any significant change in your own circumstances can throw off the trajectory of your retirement plan. Of course, the worst case is that you could simply move the goal posts. But, to work all of that time making the financial sacrifice along the way, only to come up short would be extremely disappointing.

Also, if you come up a little short in your accumulation, you may be tempted to tap your Social Security benefits early. While this can help shore up your income, it will cost you tens of thousands of dollars of benefits that would otherwise be payable to you were you able to wait until 65, or, better yet 70. A sound early retirement plan should enable you to postpone your Social Security benefits as long as you can in order to optimize your lifetime income.

Phase into Early Retirement

Instead, you could consider a phased retirement goal combined with the use of annuities that will enable you to transition into an early retirement without overburdening your assets or requiring you to tap into your Social Security too early. It is much more measured approach set to benchmarks which means, if you approach a phase in better financial condition than you planned, you could either shorten that particular phase or skip it altogether depending on where precisely you are in relation to the ultimate goal. The phase approach also enables you to make the necessary life style adjustments that will make your final transition into retirement feel seamless.

Phase 1: Start your business

OK, you may not have been thinking about starting a business in retirement, but the reality is that most people expect to generate earnings, either from another vocation, part time work, or through their own business. You can never be certain of what type of vocation or part time work you’ll get in retirement, but you can certainly control what type of business you own and operate. By starting a business in Phase 1 (8 to 10 years before the target date), your revenue flow will be established and stable. Plus, everyone could use the extra income while they are working. Think small initially – a home-based business, monetizing a hobby, establishing a consultancy – then grow it gradually.

Phase 2: Convert your home into income

You’ve planned to replace your oversized house with a smaller home in retirement, why not do it early. Sometime around five to seven years out, take your tax free equity proceeds (if you qualify for the home sale exemption) and put it into a deferred annuity. Why an annuity? Well, you can’t dump into your qualified retirement plan, so an annuity will allow your funds to accumulate tax deferred. An indexed or variable annuity will enable your funds to earn market-like returns, and these products include features that can minimize or eliminate your downside risk. Apply the monthly cash savings towards retirement savings or investing in your business.

Phase 3: Begin de-employment

A lot depends on your employment situations, but if circumstances are such that you can arrange a reduced schedule with your employer, you could begin the de-employment process three to five years out from your target date. Some people are able to negotiate an independent contracting arrangement. It would help the process if one of the spouses continued to work full-time in their position to maintain benefits, etc. You can use the extra time to work on your own business.

Phase 4: Retire

You have your business in place as a source of income that will bridge you to your pension or retirement plan withdrawals. You’re retirement assets are now in place. It’s time to decouple.

Convert your deferred annuity into an immediate annuity

This is where you turn your home equity into a constant stream of income that will, initially, bridge you to your Social Security benefits at age 65 or later, and then provide the safety net of income you will need for as long as you live. The first stage of the conversion consists of transferring a portion of your deferred annuity to an immediate annuity. Then elect to receive your guaranteed payments for the number of years until you plan to take Social Security. For example, if you retire early at age 60, and you want to postpone Social Security until age 68, you would elect to receive your payments for 8 years.

Allow the balance of the deferred annuity to accumulate for that same time period. At that time, you can then annuitize it to generate a guaranteed income for life, which will allow you to phase out your business if you so desire.

There are a number of ways to build these phases, and they may include some combination of these or other tactics. The key is to start your early retirement early so your progress can be measured and you have the opportunity to secure your retirement foundation. The annuity is your key to creating stability and certainty in your income no matter how you end up deploying it.

1. Retire. You’ve made all of the necessary lifestyle adjustments. You created an income stream that can bridge you to your pension. And your retirement assets are all in place.

It wasn’t so very long ago that retirement was treated as an afterthought for people who worked for 40 years, collected their pensions and Social Security, and lived a few years in leisure. There really wasn’t a need for retirement planning per se. In fact, retirement planning, as we currently know it, didn’t come into being until the 1980s or 1990s when life expectancies begin to expand. Today, with rising retirement costs, longer life spans, and the need to rely almost exclusively on one’s own assets for income, there is little margin for error in planning for retirement. When we’re talking about securing a comfortable income that needs to last as many as 25 or 30 years, mistakes made early on can be magnified to tragic proportions. It becoming increasing important to avoid the biggest retirement planning mistakes.

Retirement Planning Mistake #1: Not setting clear, meaningful, realistic goals

Everyone understands that they need a target so they know where and how far to aim. It’s a simple exercise to set a target date for retirement and attach an income goal. The problem for many people, is that the goal is just a number and the time horizon seems boundless, meaning they think there’s plenty of time. Without a clear vision of what you want your retirement to look like and then translating your vision into very specific goals and benchmarks, you may find it difficult to muster the motivation or sense of urgency to adhere to a savings plan. If it’s not a priority, it’s likely to be procrastinated. Then the cost of your retirement goals increase.

Retirement Planning Mistake #2: Underestimating retirement costs

The cost of living in retirement has been steadily rising for decades due, in part, to increasing life spans, as well as general rising prices. Most people think that their expenses will actually go down during retirement. But, when you factor in rising health costs, the possibility of caring for aging parents, the possibility of subsidizing struggling children, the possibility of carrying a mortgage into retirement, and the probability of requiring some kind of long term care assistance, your retirement living costs may actually be higher than your working years.

Because we are living a lot longer than previous generations, the cost to stay healthy for a lot longer will consume a big portion of our income and assets. And, while the government has laid down a safety net of sorts with Medicare, which is likely to change for future beneficiaries, it doesn’t go far enough to protect us from critical or long term illnesses.

Retirement Planning Mistake #3: Trying to manage investment performance rather than risk

Sometimes it takes people a while before they figure out that they have absolutely no control over investment performance. No one can predict the future movements of the markets or interest rates. This fixation on investment returns detracts from what investors should be focused on, and that is managing their risks. Why? Because risks are certain, and because risks can be managed. For example, we know that inflation will rise. And, we know that interest rates will rise, and they will fall. You can also say with absolute certainty that the stock market will rise, and it will fall. We can’t be certain of the timing or the duration, but all things economic move in cycles. The newest risk that retirees face today is also fairly certain, and that is longevity risk, or the risk of outliving one’s income. When you combine the risk of longevity with the risk of inflation and the risk of declining markets, you have a compounded risk of dramatic proportions. But all of these risks can be managed and mitigated to reduce their potential impact on your financial future.

The key is to own non-correlating assets and apply certain investments as counterweights to the risks inherent in other investments. For instance, everyone needs to own growth investments such stocks. Because there is a risk of stock prices declining, you should also own investments that move counter to stocks, such as bonds. Also, both stocks and bonds can perform poorly during times of inflation, so we can counter that risk with a portion of our assets invested in gold or real estate. And, because the values of the various assets values will change over time, it is important to keep the counter weights balanced so that any one type of risk is not overly exposed. With this approach, the returns on your overall portfolio will be much more stable and more consistent, which is the absolute key to wealth accumulation.

Retirement Planning Mistake #4: Not knowing where you are in relation to your goal

One only has to look back on the last decade to be reminded that the economy and the markets can change rapidly and that people’s circumstances can also evolve quickly. It is important to think of your retirement plan as a living organism that responds to its environment. And what evolves may not look anything like what you originally envisioned. But, if you take frequent snapshots, you will be able to make the small adjustments needed to keep it on track to your goals. Many people simply continue to save, which is good, but the trajectory of your retirement account can be easily thrown off track if you are not monitoring its progress each year.

Your retirement plan will need to be adjusted to reflect your own evolving needs, priorities, risk tolerance and investment preferences. When done properly with regularity, the adjustments usually amount to minor tweaks. With a clear vision and specific goals you’ll always know where the target is and how close you are.

Investing is never a precise activity. No matter the investment vehicle, there are usually a number of variables that have to be identified, weighed, compared, and, ultimately, matched to your investment objectives, and nothing ever fits precisely. And, periodically mistakes are made when choosing an investment. Mistakes made with annuities can be especially costly because they involve a contract that makes it difficult to rectify an error or appease a change of heart. Clearly, annuities aren’t for everyone, but in the right circumstances, for the right person, they can be just the right investment. That can only happen when you go into an annuity investment with your eyes wide open, and you know how to avoid the biggest annuity investment mistakes.

Annuity Investment Mistake #1: Investing without clear, well-defined investment objectives

This would be considered a bad mistake for any type of investment, but, with an annuity, it can have more far reaching, and longer lasting consequences. Annuities can address several different investment objectives, and the different types of annuity products are designed for different investor profiles. It’s likely that among the many types of annuity products there’s one that can match most any profile. But, unless you have a clear understanding of your profile, and you specifically define your objectives, you may never really know if it is the right investment for you. And, of course, this can lead to remorse, angst, and, ultimately dissatisfaction with your investment choice. It is vital that you take the time and effort to clearly define your investment profile and objectives before investing.

Annuity Investment Mistake #2: Investing in a product you don’t understand

This one of Warren Buffets top 3 investing tenets: Never invest in what you don’t fully understand. He applies his warning to stock investing and the importance of truly understanding the business, what it does and how it makes money. With annuities, you need to understand the product, how it works, and how it specifically addresses your financial needs. Even the most basic of annuities, the immediate annuity, which is a simple exchange of capital for a stream of income, has a lot of moving parts which are consequential. Variable annuities have an added layer of complexity with their investment accounts and additional costs. And, indexed annuities are especially complicated with their formulas and caveats. These can all be exceptional products, but if you can’t clearly explain how they work and how they address your specific needs so that a high school student can understand it, you need to study them some more.

Annuity Investment Mistake #3: Investing without an overall strategy

One of the worst mistakes investors make is to make investment decisions without having a guiding strategy based on their objective, needs, concerns and risk tolerance. Investing by making ad hoc decisions or without consideration for a strategy almost never works in favor of the investor. With annuities, people often make the mistake of buying them without considering their liquidity needs, or tax situation, or their participation in qualified retirement plans. Any investment should fit snug alongside other investments in a portfolio designed to achieve the broadest diversification and balance. Annuities should not be considered unless you have sufficient liquidity with other assets, and your tax situation merits investing in tax advantaged investments. Above all, until you have maximized your retirement plan contributions, especially where employer matches are available, an annuity may not be appropriate for your portfolio.

Annuity Investment Mistake #4: Buying the first annuity you see

For most annuity owners, their first encounter with an annuity product was through an agent or advisor who recommended it. In most cases, that agent or advisor recommended a particular product because it was the only one, or one of a small number, that they offered. This is not to say that they recommended a bad or non-competitive product, but how would you know unless you were able to compare it against others. There are hundreds of annuity providers each offering several different products. The good news is that it is a very competitive marketplace. Once you learn more specifically how annuity products work (see Mistake #2) including how rates are determined, costs, fees, withdrawal provisions, etc., you can use all of these as points of comparison. The best way to do this is by accessing an annuity comparison site. It can take just a matter of minutes to screen through dozens of products using a range of different criteria.

Annuity Investment Mistake #5: Going for quantity over quality

When comparing annuity products, the big draw are the yields. Annuity providers know that they may have only one, brief opportunity to lure you in, so they use their most effective marketing ploy which is a high promotional rate. Certainly the appeal of an interest rate that is a point higher than the next competitor is difficult to overcome. And, with indexed annuities, the products that offer 100% participation rates or 0% cap rates have tremendous allure. But there’s two very important considerations in choosing rates: First, look under the hood. A high promotional rate today may turn into a below market rate shortly down the road. Second, annuity providers that offer the highest rates might need to do so because their ratings are not the best. And, companies that get too aggressive in their rates can weaken their financial position in the future.

Going way back in history to the 1980s may be too big of a stretch considering that there hasn’t been a failure of a life insurance company since then, but it is worth noting that companies, such as Baldwin United and Executive Life offered the highest rates of the day, but their portfolios also had the lowest ratings. This made them very susceptible rising interest rates which wiped out a chunk of their portfolio value. Both went into receivership, and, although all of their contract holders were made whole, it served the purpose of illustrating why it is important to go with quality over quantity by choosing the life insurers with the strongest ratings.