Over the years I have found that investors find annuities especially attractive during shaky economic times. There is one thing that is different this time around, however – as annuities have evolved, they have become more complex.

90% of most icebergs lurk underneath the water. Above the water is only the tip, which does not amount to the massive structure below. And as you may already well know, it was this 90% that sent the “unsinkable” RMS Titanic to its fate on that cold night in 1912. One of the annuity companies we work with makes an outstanding comparison with these beautiful, but potentially devastating formations to unique, but potentially damaging annuities.

This is not to say annuities are bad or annuities are good. But exploring the annuity world is much like navigating through the northern seas: there are many variables and you cannot simply pick any course and set your ship on autopilot. Not only should you know whether or not annuities are ideal for your unique situation, you should know what’s underneath the water when you are shopping for annuities. Annuities are extremely complex and are becoming more so all of the time. There are many features, benefits and hybrid options among the different types of annuities, which may be advantageous to your situation, but they are not free. Provided below are some questions to consider when charting a few annuity courses.

Let’s start with something simple: an immediate annuity. Above the water, this type of annuity may seem to make a lot of sense to a retiree with a lump sum of money. The immediate annuity is purchased with a single premium and the return payments for you represent a portion of that principal plus guaranteed interest over a specific period.  Below the water, however, you just locked yourself into a lifetime of payments that may not increase with inflation. And frankly, if this doesn’t prove to be a problem it must be because you died at an early age and you chose a lifetime payout option on your contract – and the annuity company just became the heir of what you didn’t get to collect from your lifetime savings. Now there are other options you can choose that will change this scenario up a little, which are period certain, lifetime or straight life, fixed period, joint and survivor and quasi-inflation adjusted payments; but these are not free by any means and not simple.

…Questions you need to consider: What do each of these payout options mean, what are the risks associated with each of them and does this fit my situation? For each $1,000 how much of a monthly payout will be made? How much lower will my monthly payments be by choosing quasi-inflation adjusted payments?

A fixed annuity is backed by the claims paying ability of the issuing company.  The company may then invest in a variety of investments. In order to help the public grasp the claims paying ability of the company, rating agencies will issue ratings for issuers. Insurance agents tend to promote fixed annuities more than any other. Most fixed annuities guarantee a fixed interest rate for a certain time period. After this period, the rate is adjusted upwards or downwards with usually a minimum interest rate of 2 to 3%. By the way, many times it is the insurance company’s intention to pay you a lower rate in later years. Be sure to ask for the history of annuity payouts after the guaranteed time frame is over. Above the water, this investment is low-risk. Below the water, though, it’s not necessarily a real good choice for the long-term. The growth in the annuity is minimum and may or may not beat inflation. Also, the rate in a fixed annuity depends on interest rates. If the current interest rates are low, you can probably count on a good rate. But if your annuity interest rate is adjusted when interest rates are high, you might not be happy.

…So consider this: What is the issuer’s rating? What is your time horizon? What are your goals? What is the length of the contract? What are the surrender charges?

Not to beat the analogy to death here, but we’ve just touched the tip of the iceberg and will need to continue on the subject of annuities next week with equity-indexed annuities. As always, I strongly recommend that you work closely with an advisor who is intimately aware of your unique situation and one who is able to place you in the right investment vehicle.