Key Difference – Annuity vs IRA
Investors invest in a wide range of investment options such as equities and bonds with the intention of earning higher returns. Investing in an annuity or an IRA (Individual Retirement Account) is different to the above investments since annuity and IRA are popular retirement plan investments. The key difference between annuity and IRA is that while annuity is not subjected to contribution restrictions, IRA’s have annual contribution limits.
What is Annuity
Annuity is an investment from which periodic withdrawals are made. In other words, this is an agreement between the investor and a third party (usually an insurance company) where the investor pays a lump sum of funds to the insurance company and start receiving an income once the retirement period starts. Thus, annuity provides a steady income at retirement.
There are two main types of annuities as described below.
A guaranteed income is earned on this type of annuity where the income is not affected by changes in interest rates and market fluctuations; thus, these are the safest types of annuities. The below are different types of fixed annuities.
The investor receives payments soon after making the initial investment.
This accumulates money for a pre-determined time period before starting to make payments.
The amount of income varies in variable annuities since they give an opportunity for investors to generate higher rates of return by investing in equity or bond subaccounts. Income will vary based on the performance of the subaccount values. This is ideal for investors who wish to benefit from higher returns, but at the same time, they should be prepared to endure the probable risks. Variable annuities have higher fees due to the associated risk.
Annuity can be tailor-made to the specific requirements of the investor as there are different types as explained above. No taxes are payable on annuity until the investor starts making withdrawals. Unlike IRA, Annuity is not subjected to annual contribution limits. However, annuities usually charge high fees and are subjected to early withdrawal penalties if the investors withdraw funds before reaching the age of 59.5 years.
What is IRA
With an IRA, the investors invest a certain amount of money for retirement savings in an account set up through the investor’s employer, a banking institution or an investment firm. IRAs are similar to annuities that the money is dispersed into different investment options to generate a return.
There are two main types of widely used IRAs, Traditional IRA and Roth IRA.
In this method, the funds are not taxed until withdrawn. If the funds are withdrawn before the end of the retirement period, 10% penalty charge is payable to the insurance company. If the tax rate at the end of the retirement is lower, this is more advantageous.
In Roth IRA, the funds are taxable each year, i.e. the annual contributions are made with the after-tax funds. However, there will be no tax charge at the withdrawal in retirement; therefore, if the tax rates are higher at the time of retirement, this option is more beneficial compared to traditional IRA.
What is the difference between Annuity and IRA?
Annuity vs IRA
|Contribution made to annuity is not subjected to restrictions.||IRA’s have annual contribution limits.|
|Setting up the Investment|
|Annuity investment is generally set up by an investment company.||IRA is usually set up by the employer of the investor.|
|Fixed annuity and variable annuity are two main types of annuity.||Traditional IRA and Roth IRA are two main types of IRA arrangements|
|Annuities usually charge high fees||Fees payable to manage an IRA is lower compared to Annuity.|
Summary – Annuity vs IRA
Both Annuity and IRA provide sound retirement plan options if managed properly. Annuity gives a wider range of investment options due to the wide varieties available whereas IRA has two types, Traditional and Roth. The main difference between Annuity and IRA is their contribution limit; while contributions in IRA is restricted within a given limit of funds, annuity is not affected by such limitations.
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