Can You Lose Your Money in an Annuity? What to Know

Annuities are designed to provide tax-advantaged growth and guaranteed income in retirement, but can you lose money when buying an annuity? The short answer is yes, while most types of annuities can provide a safe haven in volatile markets, in specific circumstances they can lose money.

Annuities can be a safe option for people saving for retirement and looking for guaranteed income once retirement begins. With the right guidance, you can find an annuity product that will help eliminate the possibility of losing your retirement savings.

How Can You Lose Money with An Annuity?

There are a handful of specific cases and scenarios through which you might lose money when buying different types of annuities, including:

• Poor Performance of Variable Annuities: Poor performance on the underlying investments of your variable annuity can expose you to a loss. This happens if the annuity is not protected with a guaranteed minimum return option (more on that later).
• Life-Only Income Annuities: Choosing the life-only income annuity payout option after buying a lump sum annuity, and then dying earlier than expected (the insurer keeps the balance). It is important to understand your options when you are ready to annuitize your contract.
• Surrender Charges: Exceeding the annual allowable withdrawal amount, dictated by the insurance company, leading to early withdrawal surrender charge penalties. These reduce the value of your account. This usually happens when you need emergency money, but make sure you understand the surrender charges and surrender periods that are part of your annuity contract.

Is Principal Protection a Guarantee that You Won’t Lose Money?

Variable annuities and a life-only income annuities are the two annuity products where you have the risk of losing money. All other types of annuities (fixed, fixed-indexed, immediate) have built-in protections that secure your principal and some even offer guaranteed minimum returns.

Even variable annuities come with rider options that can help you protect your principal. Principal protection guarantees come at a price. The protection usually appears as an annual charge against your annuity balance (for instance 0.65% in annual fees per year). With these principal protection riders in place, your original investment would be protected.

Annuities Where Contract Owners Can Lose Money

As mentioned, there are some types of annuities that do not come with guaranteed protection of your annuity deposit. Let’s take a deeper dive into these products.

Variable Annuities

As you build your retirement nest egg, annuities can be an important piece of the puzzle. Depending on your risk tolerance and desire for growth, there are many types of deferred annuities that can help you grow money prior to retirement. One of those types of annuities is called a variable annuity. This is the riskiest type of annuity to buy, but also offers the most growth potential when compared with fixed-indexed and fixed annuities.

The buyer of a variable annuity chooses the underlying funds (mutual funds, for instance) that will drive the performance of your annuity. Since these funds are linked to stock market performance, they are inherently risky and if the underlying funds perform poorly, you can lose money.

As mentioned, while you can purchase a guaranteed principal rider to ensure that you will get back at least what you put in, these riders can be expensive and eat into your principal. Before purchasing a variable annuity you should speak with a licensed financial advisor.

Index Annuities

Index annuities, also called registered index-linked annuities (as opposed to fixed-index annuities, see below), are annuity products that offer a return on investment upside that is linked to indexes like the S&P 500. If the underlying indexes do well, you can earn higher potential returns vs fixed annuities.

These returns are usually capped by the insurance company, because the company is also offering downside protection (this comes with a cost reflected in the upside cap). The difference between index-linked annuities and its fixed indexed cousin is if the index in an index annuity performs negatively, an annuity owner can lose money up to a “floor” that is reflected in your contract and can be a negative number! For instance, if you choose a maximum loss limit of 10% and your annuity value drops 15% in one year, then you only incur an 10% loss and the insurance company absorbs the rest. Conversely, if your indexe performs well and sees a 15% increase when your contract has a 10% growth cap, you will only earn 10%.

Single-Life Income Annuities

One of the great features of annuities is the potential for guaranteed lifetime income payments. This income benefit truly separates this product from other financial products like mutual funds, stocks, CDs, etc. and can supplement other guaranteed income like social security. The ability for an annuity to pay an income stream in retirement is a real plus. But when you choose to annuitize an annuity contract or buy an immediate annuity, you are faced with choices in the form of payout options.

If you choose a single life option, you are betting that you will have a long life expectancy and are seeking the highest monthly payout income for the rest of your life. The challenge is that if you die earlier than expected, the annuity simply stops paying, with no option for a death benefit or continuation of payments to a spouse, for instance. You could lose money when you choose a single life payout annuity. It’s best to consult with a financial professional to review your payout options based on your unique situation.

Annuities Where the Contract Owner Cannot Lose Money

For retirees who tend to be risk-averse, there are great annuity products that offer 100% protection against loss of principal. These products can be a smart addition to your retirement account.

Immediate Annuities

An immediate income annuity, sometimes also called an “instant annuity,” is a type of annuity where the payouts begin very soon after you buy it — usually within a year. You pass along a lump sum to the life insurance company, and they guarantee a stream of payments for the period of time that you choose. The distributions are guaranteed by the financial strength of the insurer and you cannot lose money. You can even choose options like death benefit provisions and continuation of payments to a spouse upon your death.

Deferred Income Annuities

Like immediate annuities, deferred income annuities pay out a guaranteed stream of income at a fixed rate of return, but the payments start at a date in the future that you choose. For instance, you may buy a deferred income annuity at age 65, but choose to begin your payments at age 75. This is a great product for paying anticipated medical and long-term care costs as you age.

Fixed-Index Annuities

Fixed-index annuities are “hybrid” annuities, offering more upside than fixed annuities with a guaranteed minimum floor that is never less than 0%. This protects the buyer from loss of principal. This can be an excellent product if you want the upside of a market-linked index, but also a guarantee that you won’t lose money. Like all deferred annuities, your money grows tax deferred.

Fixed Annuities

Fixed annuities are the simplest type of annuity product, where rates of return are guaranteed for a specific period of time, say three, five or seven years. These products also feature a guaranteed minimum annual return, usually greater than 0%. Fixed annuities are a great alternative to lower-yielding bank products like CDs and savings accounts. Check out current rates here.

The rates are guaranteed and you cannot lose money. If you choose to withdraw money during your surrender period you may incur surrender charges if the amount you withdraw is above the annual allowable withdrawal amount. So while you can technically lose money with a fixed annuity, it is unlikely if you focus on only having long-term money invested.

Protecting Your Principal is Just One Part of Choosing an Annuity

Growth potential and guarantee of principal,this is the “holy grail” of retirement planning. Fortunately, both fixed-index and fixed annuities offer these sought-after features. Like any solid financial plan, your portfolio of products should be diversified and include a handful of products that offer guaranteed retirement income. Fixed annuities, while the most conservative type of annuity product, offer guaranteed rates and 100% protection from loss of principal. Interest rate returns for fixed annuities are almost always greater than other conservative investments like CDs and savings accounts.

Canvas Annuity features some of the best rates of return in the industry. You can buy direct from the company, which saves time and hassle!

Sources:

Annuity Expert Advice — The Registered Index-Linked Annuity: The Buffer Annuity — (Plummer)

Feeling Financial — Annuity Guarantees – Guaranteed Principal Protection (Money Back Guarantees)

Forbes — Can You Lose Money In An Annuity? Know These Two Things To Figure It Out — (Carey 2020)