Does an Annuity Belong in Your Retirement Plan? Here’s How To Know.
An annuity isn’t a yes-or-no decision. It’s a fit, amount, and timing decision. Getting those right matters more than the product itself.
If you’ve built meaningful wealth, then you’ve probably heard strong opinions about annuities. Some are from people selling one. Others are from people who’ve never planned for a client who actually needed one.
We’re skipping the sales pitch and the reflexive skepticism.
At Prosperity Capital Advisors (Prosperity), we’re answering more useful questions. Given your specific plan, does an annuity make sense? How much would you need? And how does it interact with everything else you’ve built?
On This Page
The Basics: How an Annuity Works
At its core, an annuity is a contract with an insurance company that converts a sum of money into a stream of income, either now or later. You fund it with a lump sum or a series of payments (the accumulation phase). And at some point, it starts paying you back (the payout phase).
What you’re really buying is a guarantee: income that continues regardless of what markets do.
That guarantee is the entire point … as well as the entire tradeoff. In exchange for predictability, you typically give up some liquidity and some upside. Whether that tradeoff is worth it depends on what role the money’s meant to play in your plan.
That’s the real question we built this page around.
Check out Annuities and Retirement Income: Separating Reputation from Reality by our own Kirsten Schlumbohm, BPC. She gives you a deep look at how annuities’ reputation compares to how they actually function in a retirement plan.
Is an Annuity Right for You?
There’s no universal answer here, but there’s a pattern. Annuities tend to earn a place in a plan when several of the following cues are true. Check the ones that apply to you.
Did you check three or more? If so, an annuity is worth exploring with an advisor.
Did you check only one or none? This may not be the right season for an annuity. And that’s a perfectly good answer, too.
We want to help you see your plan more clearly from all sides.
How Much Annuity Do You Need?
This is often the real question, and it’s more useful than “Should I get an annuity at all.” Many high-net-worth (HNW) retirement plans don’t need every dollar of income guaranteed, and they don’t need zero either.
The right amount is usually the size of the gap between these two:
- What you’ll spend
- What you already have coming in for certain
Jot down these numbers. Try it on your own before your next planning conversation with your advisor.
- Estimated annual retirement expenses: $______
This includes housing, healthcare, travel, and lifestyle spending in today’s dollars. - Guaranteed income you already have: $ ______
Consider Social Security, pensions, or any other income that arrives despite the markets. - Your income gap, Line 1 minus Line 2: $_____
This is the portion of your spending that guaranteed income doesn’t yet cover. - Share of that gap you’d want guaranteed income to cover, not market exposure to cover: _____%
No single right answer: It’s a comfort-with-risk matter. - Starting point for annuity income to explore, Line 3 multiplied by Line 4: $_____
Example. Say your annual expenses run $250,000, and you have $70,000 in guaranteed income. That’s a $180,000 gap. If you want guaranteed income to cover half that gap, you’re looking at about $90,000 in annual annuity income as a starting point for the conversation.
It may be helpful to fill this out and bring it with you when you speak to your advisor. It won’t give you a final number on its own, but it’ll make the discussion shorter and more fruitful.
Types of Annuities and Where They Fit
We categorize annuities both by when income begins and by how they grow. Here’s a plain-language comparison of the most common types.
| Type | How It Works | Typical Use |
|---|---|---|
| Immediate | You hand over a lump sum, and income starts almost right away. | Retirees who need income now, not later |
| Deferred | Your money grows for a period before income begins. | Pre-retirees planning income for a future date |
| Fixed | It earns a guaranteed, fixed interest rate during accumulation. | Investors who want predictability above all else |
| Fixed Indexed | Its returns are linked to a market index, with downside protection. | Investors who want some upside potential without full market risk |
| Variable | Its returns are tied to underlying investment subaccounts. | Investors comfortable with more risk in exchange for more growth potential |
How an Annuity Interacts With the Rest of Your Plan
This is where a lot of annuity information stops short … and where it matters most for an HNW retirement plan. An annuity doesn’t sit in isolation. It changes how the rest of your plan behaves.
Tax Sequencing
Income from a qualified annuity is taxed as ordinary income when distributed. This means where the annuity sits relative to your other accounts (taxable, tax-deferred, Roth) affects your total tax picture.
Required Minimum Distribution (RMD)
If the annuity is held inside an IRA, it’s subject to the same RMD rules as the rest of that account. Some annuity structures can also satisfy RMD requirements on their own. That’s worth understanding before you assume you need to draw down other assets first.
Estate and Legacy Planning
Depending on the structure, remaining annuity value may or may not pass to your heirs the way other assets would. Some riders exist specifically to protect a legacy amount. If leaving assets to family or a cause is important to you, this needs to be part of the conversation from the start.
Portfolio Construction
An annuity effectively works as a fixed-income-like allocation with guarantees attached. That means it should influence how much traditional bond exposure you actually need elsewhere. Adding an annuity without adjusting the rest of the portfolio can leave you more conservative overall than you intended.
This isn’t an exhaustive breakdown. We want to emphasize that an annuity is a planning decision rather than a product purchase. That distinction typically separates a good outcome from a disappointing one.
An annuity is one piece of a larger plan, not a standalone decision. At Prosperity, we make every recommendation, including whether an annuity belongs in your plan, using The Bucket Plan®. It’s our framework for organizing your assets by purpose and time horizon. An annuity might fill the “Soon” bucket for guaranteed income, while the rest of your assets stay positioned for growth or long-term legacy goals. The point is in how the product fits. Learn more about our holistic financial planning approach.
Common Annuity Objections, Reconsidered
These are the concerns we hear most from clients considering an annuity, plus the planning conversation each usually opens up.
“I don’t want to lock up my money.”
A valid concern, and it’s often the right instinct for money you might need to access. Most annuities allow some access to your assets before the surrender period ends. It’s typically a set percentage each year, frequently around 10%, without penalty.
Pulling more than that within the surrender window can trigger a charge that declines over time until the contract is fully liquid. Here are more useful questions:
- How much of that money do you actually need liquid?
- Was the rest ever meant to sit in something market-exposed in the first place?
“Annuities are expensive and full of fees.”
Some are; others aren’t. Fee structures vary tremendously by type and carrier. This is a due diligence question and certainly no reason to rule out the whole category. Your Prosperity advisor will walk through this aspect with you when you’re considering an annuity.
“I’ve heard annuities are a bad deal.”
Much of that reputation comes from several culprits:
- Older products
- Poor sales practices in parts of the industry
- Annuities sold without a planning context around them
Prosperity’s President of Wealth Management Dave Alison wrote Myths Around Annuities for Retirement Planning. It helps clear up where that reputation does and doesn’t hold up.
“I can just build my own bond ladder for guaranteed income.”
You can. And for some clients, that’s the better answer. A bond ladder and an annuity solve a similar problem differently:
- One relies on your own ongoing management.
- One relies on an insurer’s guarantee.
Which is better for you depends on your goals.
“How does my advisor get paid on this?”
Fair, and worth asking before buying an annuity. Ask your advisor whether they earn a commission on the product they’re recommending and how that commission compares across the carriers they should choose from.
The answer shouldn’t change what they recommend. You’re entitled to know either way.
Who Tends To Add an Annuity to Their Plan
Annuities show up in very different plans, for very different reasons. Here are a few of the more common ones.
The pre-retiree closing an income gap.
They’re 10 years from retirement and hold a strong portfolio. But guaranteed income won’t cover fixed costs. They’re often looking at a deferred annuity to start income at a later date. That gives the rest of their portfolio time to keep growing before the guarantee kicks in.
The retiree building a legacy floor.
They already have enough income to live comfortably. Still, they want to protect a portion of their assets from market risk to preserve them for heirs or a charitable goal. An annuity can serve as that floor, guaranteeing a baseline of income so the rest of the portfolio is freer to grow or pass on intact.
The business owner after a sale.
They’ve experienced a large, sudden liquidity event with no employer pension behind it. Now they need to convert a portion of the proceeds into predictable income, not manage a drawdown from scratch. An annuity can do that conversion in one step, turning a liquidity event into an income stream without regular management.
The woman restructuring income after a life transition.
She’s gone through divorce, widowhood, or a career change. The event altered both her income needs and risk tolerance at the same time. An annuity can offer a way to rebuild a predictable income floor without reentering the market at a risk level she’s no longer comfortable with.
Read Why Women Need Different Retirement Strategies (and How Annuities Can Help), courtesy of Jeannette Bajalia, BPC. She’s a fierce advocate for women’s financial challenges.
FAQ: Annuities
Questions abound around annuities for retirement plans. Let’s answer some of the most common ones.
Do I need an annuity?
Not necessarily. Annuities tend to make sense for filling a distinct income gap or reducing reliance on market performance for essential expenses. They also touch your taxes, RMDs, and legacy planning (beyond your income).
An annuity may not add much if one of these situations applies to you:
- Your guaranteed income already covers your needs.
- Liquidity matters more to you than predictability right now.
The self-assessment above is a starting point for figuring out where you land.
How does an annuity work in plain terms?
You give an insurance company money, either as a lump sum or over time. In exchange, it guarantees to pay you income, either starting immediately or at a future date you choose. The details vary by annuity type and contract terms. The comparison table above breaks down types.
How much annuity do I need?
Start with the gap between your expected expenses and your existing guaranteed income. Then, decide what share of that gap you want covered by a guarantee versus market exposure. Use the worksheet above to work through your own numbers.
Why would an annuity benefit my retirement plan?
The main benefit is certainty: income that doesn’t depend on market performance. That certainty can also change how you invest the rest of your portfolio. Why? You’re not relying on all of it to cover essential expenses. That can free up the remainder for your advisor to position more for growth.
A Plan, Not a Product
An annuity is one tool among many. Like any tool, it’s only useful when you match it with the right job. Annuities aren’t innately “good” or “bad.” The decision hinges on determining whether one belongs in your unique plan, and if so, how much and when.
Ready to see how this applies to your numbers?
Bring your numbers and questions to us at Prosperity. We’re happy to examine your situation and make sure the annuity you get (if you get one) fits your retirement plan.
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