Annuities

The annuity industry sold $461 billion worth of product in 2025. That’s a fourth consecutive record year. The money flows overwhelmingly into the products with the highest commissions, not the products with the best outcomes. The one annuity type that academic research most consistently supports accounts for 3% of total sales. Three percent. The other 97% goes to products that are complex, expensive, and frequently unsuitable for the people buying them.

Most annuities are sold, not bought. They’re sold at dinner seminars, sold by insurance agents who earn 6-9% upfront commissions, sold to retirees who came in asking about CDs and left with a 10-year surrender contract. The annuity industry’s record profits and the average retiree’s best interests are not the same thing.

That doesn’t mean every annuity is a bad deal. One type has a narrow, legitimate use.

What Annuities Actually Are

An annuity is a contract between you and an insurance company. You give them money now. They promise to pay you money later, under terms that vary enormously depending on the type. The word “annuity” covers three fundamentally different products, and lumping them together is how the industry gets away with selling the expensive ones.

Single Premium Immediate Annuities (SPIAs) are the simplest version. You hand over a lump sum and the insurer starts paying you a fixed monthly income, usually within 30 days. The payments continue for life. A 65-year-old man putting in $100,000 currently gets roughly $600-$680 per month for life. A married couple taking joint life coverage with 100% survivor benefit gets less, around $480-$550 per month per $100,000, because the insurer expects to pay longer.

SPIAs have no moving parts. No investment options, no annual fees, no riders. The insurer pools your money with thousands of other annuitants, invests it conservatively, and pays out based on interest rates plus mortality credits. Mortality credits are the key mechanism: people who die earlier subsidize payments to people who live longer. This is insurance working exactly as insurance should.

Variable annuities are a different animal. Your money goes into sub-accounts that function like mutual funds. The value fluctuates with the market. Layered on top are insurance guarantees (called riders) that promise a minimum income floor or a death benefit. Those guarantees cost money. Lots of it.

Fixed indexed annuities sit in the middle, at least in theory. Your principal is protected from market losses, but your gains are linked to an index like the S&P 500, subject to caps, participation rates, and spreads that the insurer can adjust. The complexity is the feature, from the seller’s perspective. The harder a product is to compare, the easier it is to sell at a high margin.

The Commission Problem

A financial product’s commission structure tells you who it was designed to serve. SPIA commissions run 1-3% of the premium. Variable annuity commissions run 4-7%. Fixed indexed annuity commissions run 6-9%.

The products with the highest commissions dominate the market. Indexed products now account for 45% of all annuity sales, up from 24% a decade ago. SPIAs represent 3% of the market. The product that pays agents the least is the one that research supports the most.

Commissions are invisible to the buyer. They’re paid from the insurer’s reserves, not deducted from your account on day one. You never see a line item. But the money comes from somewhere, and that somewhere is the contract terms. Caps are lower, participation rates are smaller, and surrender periods are longer in products that pay higher commissions. The commission is built into the price.

Variable annuities layer ongoing fees on top. A typical variable annuity charges mortality and expense risk fees of 1.19%, underlying fund expenses of 0.94%, administrative fees of 0.18%, and rider charges around 1.06%. Total: north of 3.15% per year. On a $200,000 variable annuity, that’s $6,300 per year in fees regardless of whether the underlying investments gain or lose. An index fund portfolio with the same asset allocation would cost roughly $200 per year.

Surrender charges lock you in. A typical schedule starts at 7% in year one and declines by a point each year until it hits zero in year eight. Some indexed annuity contracts run 10 years with starting penalties of 9-10%. The surrender charge exists for one reason: to let the insurer recoup the commission it paid your agent upfront. Most contracts allow penalty-free withdrawals of 5-10% per year, but that’s a fraction of your money. The rest is trapped.

Agents also collect “soft money” beyond the stated commission: overrides, production bonuses, and incentive trips. Fixed indexed annuities sold at dinner seminars carry particularly generous soft compensation. FINRA’s 2025 report flagged unsuitable exchanges, over-concentration in single products, age-inappropriate sales, and documentation fraud. Disciplinary actions hit 552 in 2024, up 22% from the prior year.

None of this means every annuity agent is dishonest. It means the incentive structure rewards selling the most expensive product to the person sitting across the table.

When an Annuity Makes Sense

The legitimate use case is narrow. An annuity makes sense when you need guaranteed income to cover essential expenses and Social Security doesn’t get you there.

Think of retirement income in two layers. The floor is the income that covers non-negotiable expenses: housing, food, utilities, insurance, basic transportation. The ceiling is everything above that: travel, dining out, gifts, discretionary spending. Floor income needs to be guaranteed, because running short on groceries at 87 is not a discretionary problem. Ceiling income can come from a portfolio, because cutting a vacation is an adjustment, not a crisis.

Social Security is floor income. A pension, if you have one, is floor income. The question is whether those sources cover the floor. If they do, you don’t need an annuity. If they don’t, a SPIA can fill the gap.

The calculation is specific to you, but the framework is straightforward. Add up your essential monthly expenses. Subtract your guaranteed monthly income (Social Security, pension). If the result is positive, that’s your income gap. A SPIA can fill it.

If the result is zero or negative, Social Security already covers your floor. Your portfolio handles discretionary spending and absorbs inflation. Adding an annuity in this scenario converts liquid, flexible assets into an illiquid, inflexible income stream for no structural reason. The money is better left invested.

One nuance worth understanding: much of the SPIA’s benefit in retirement studies came from the spending pattern it created, not the annuity itself. Retirees who spent their bonds first and let their stocks grow longer got comparable results without buying an annuity and without giving up access to their money. SPIAs pulled ahead only when people lived well past 90.

That sharpens who should own one. If you’re healthy, have longevity in your family, and your Social Security leaves a real income gap, a SPIA addresses a real risk. If you’re buying one for general peace of mind rather than to close a specific gap, you’re probably paying for something you don’t need.

Worked Example: The Income Floor

Tom and Maria are both 65. Tom’s Social Security benefit at 67 (his FRA) will be $2,600 per month. Maria’s will be $1,400. They plan for Tom to delay to 70, which increases his benefit to $3,224 per month. Maria claims at 67. Combined guaranteed income at 70: $4,624 per month.

Their essential expenses total $5,800 per month: $1,900 for housing (property tax, insurance, maintenance on a paid-off house), $900 for food, $750 for healthcare premiums and out-of-pocket costs, $400 for utilities, $350 for transportation, $500 for insurance premiums, and $1,000 for everything else that’s non-negotiable.

The gap is $1,176 per month. That’s the income their portfolio must produce just to cover essentials before they spend a dollar on anything discretionary.

Tom and Maria have $650,000 in retirement savings. Using a 4% initial withdrawal rate, their portfolio supports roughly $2,167 per month. That covers the $1,176 gap plus about $991 for discretionary spending. The portfolio is doing double duty: covering essential expenses and funding their lifestyle.

The risk: a severe market downturn early in retirement forces them to sell investments at depressed prices to cover the $1,176 monthly gap. Their discretionary spending compresses. If the drawdown is deep enough and lasts long enough, the portfolio never recovers. By their mid-80s, they’re relying entirely on Social Security.

One option: use $200,000 to buy a joint-life SPIA with 100% survivor benefit. At current rates, that generates roughly $960-$1,096 per month. Call it $1,000. Their guaranteed income is now $5,624 per month, nearly covering the $5,800 floor. The remaining portfolio of $450,000 at 4% produces about $1,500 per month, all discretionary. The portfolio no longer has to cover essentials. It can ride out downturns without forcing sales at the worst time.

	Without SPIA	With SPIA
Guaranteed monthly income	$4,624	$5,624
Portfolio balance	$650,000	$450,000
Portfolio income (4%)	$2,167/mo	$1,500/mo
Income covering essentials	Portfolio + SS	Mostly guaranteed
Income for discretionary	$991/mo	$1,500/mo

The tradeoff: $200,000 leaves their control permanently. That money cannot be accessed for emergencies, passed to heirs, or redirected. If they both die at 72, the insurer keeps the remaining value. And the $1,000 per month is fixed. At 3% inflation, it buys $740 worth of today’s groceries in 10 years and $550 in 20. The floor erodes unless their other income keeps pace.

For Tom and Maria, the question is whether eliminating sequence-of-returns risk on their essential expenses is worth sacrificing $200,000 in liquidity and inheritance. If longevity runs in their families and the thought of market dependence for groceries at 85 keeps them up at night, the SPIA earns its place. If they’re comfortable with portfolio withdrawals and have other safety margins, the $200,000 stays invested and stays flexible.

If the SPIA route makes sense, shop it like any commodity. Get quotes from multiple carriers through an independent aggregator rather than a single agent. Compare life-only payouts against joint-life and period-certain options so you can see exactly what each guarantee costs you in monthly income. The quote process takes minutes, not meetings.

The Products to Avoid

Variable annuities fail a basic cost-benefit test for almost everyone. The insurance guarantees they provide (minimum income riders, death benefits) cost 3% or more per year. A retiree who holds $200,000 in a variable annuity for 15 years pays roughly $94,500 in cumulative fees at 3.15% annually, assuming no growth. The guarantee protects against catastrophic market loss, but a diversified portfolio with a sensible withdrawal rate already mitigates that risk at a fraction of the cost.

Fixed indexed annuities fail a transparency test. The insurer controls the cap rate, the participation rate, and the spread. They can adjust these annually. A product sold with a 10% cap and 100% participation rate might be renewed at a 5% cap and 80% participation rate after the first year. The floor (no negative returns) sounds appealing, but the ceiling is lower than most buyers understand. Historical back-testing of indexed annuity crediting methods shows returns that trail a simple balanced portfolio over most rolling periods.

Both product types share a structural problem: they convert a simple need (retirement income) into a complex contract that benefits from your inability to comparison-shop. A 65-year-old deciding between index funds and a variable annuity is comparing a product with transparent, published expenses of 0.03-0.20% to a product with layered fees that require a 300-page prospectus to decode.

If you already own one of these products and you’re past the surrender period, you have options. You can stop contributing, let the existing balance sit, and draw from it strategically. You can execute a 1035 exchange into a lower-cost annuity or a SPIA if the income floor approach makes sense. What you should not do is buy a second one because the first one disappointed you.

Where This Breaks

Three situations complicate the framework above.

Tax-deferred money with no better home. If you’ve already maxed out every tax-advantaged account and want additional tax deferral on a large sum, a low-cost variable annuity with no surrender charge (they exist, from firms like Vanguard and TIAA) can function as a tax-deferred wrapper. This applies to a small number of high-income savers, not the retirees at dinner seminars.

Pensions that disappeared. Workers who expected a pension but lost it to a company bankruptcy or plan freeze sometimes have a genuine income floor gap that Social Security alone can’t close. A SPIA fills exactly the role that pension was supposed to fill. The annuity math is the same as in the worked example: calculate the gap, buy only enough to close it, keep the rest invested.

Longevity far beyond average. Mortality credits become dramatically more valuable with age. By 90, the mortality-adjusted return on an annuity can reach roughly 14%, because the pool of surviving annuitants is small and the insurer’s remaining liability drops fast. Buying a SPIA at 80 is a very different proposition than buying one at 60. The problem is that by 80, cognitive decline may make the purchase decision harder, and the people who most need the product may be least equipped to evaluate it.

Insurer solvency matters. Your annuity is only as good as the insurance company behind it. Buy from carriers rated A or better by AM Best, and know that every state runs a guaranty association that covers annuity contracts up to a limit (typically $250,000) if an insurer fails. Split a large purchase across two carriers if the total exceeds your state’s guaranty limit.

The less-than-10% of income annuity buyers who choose life-only payouts (no refund guarantee, no period certain) get the best economics. Adding a guarantee that your heirs receive any remaining premium back if you die early reduces the mortality credit advantage by roughly 40%. The version of the product that feels riskiest is the version that works best. Most people can’t bring themselves to buy it.

What’s Next

Annuities lock money into contracts with insurance companies. What happens to those contracts, and to the rest of your assets, when you die?

Estate Planning Basics covers the documents, beneficiary designations, and account titling decisions that determine whether your money goes where you intend or where a probate court decides.

For the interaction between retirement income sources and your tax picture, see Required Minimum Distributions and Social Security Timing.