This is now a myth, but in older times it was a truth. There was a time when the insurance company did just that but thanks to more modern products, better regulation and oversight, it is now a myth.
If you die and have an in-force annuity contract, your named beneficiaries receive the unused portion of your annuity immediately, without delay or probate expenses.
There are two basic types of annuities, fixed and variable. Fixed annuities are sold through licensed insurance agents who are regulated by their state of residence. Variable annuities are securities which are sold by security licensed brokers. Variable annuities earn investment returns based on the performance of the investment portfolios located within the variable annuity. You have numerous choices such as stocks, binds, money market among others. How your money is invested is your choice but variable annuities can lose money. Your return earned in a variable annuity isn’t guaranteed, it can increase and it can decrease based on investment results.
Fixed annuities are not investments, they are interest earning vehicles, you know in advance exactly what your earned interest will be. There is no investment risk exposure with a fixed annuity, but the potential for a higher yield is not available. The insurance company pays you a fixed interest rate for a specific period of time; they assume the risk, not you.
These two wildly different products have only one thing in common, their shared name “annuity.” A clear example of their difference is fees and expenses. Variable annuities charge fees for ownership, management and administration and often these fees can be very high, your funds invested in an annuity can be at risk. Fixed annuities have no fees or expenses, fixed annuities pay interest.
Fixed annuities are regulated by each state’s Department of Insurance (DOI). The state insurance commissioner will set rules for regulations and doing business within each state. Each company and each product offered has to be approved by each sated before any annuity contract can be sold to the public. The National Association of Insurance Commissioners, known as the NAIC can be found here: www.naic.org
Gain and Retain. A FIA has no exposure to market risk, your funds can only increase or stay the same. A FIA will not lose value unless you remove funds yourself from your annuity. But, a FIA will not return stock market yields; it is limited (or capped). Here is a link with the entire explanation via video: https://www.youtube.com/watch?v=ChHaRxguEkM#t=22
NAFA (National Association of Fixed Annuities) has more information: https://nafa.com/wp/wp-content/uploads/2014/09/Real-World_Returns_on_Index_Annuities_March_2011.pdf
Annuities are longer term commitments, plain and simple. If you want shorter time commitments, then bank products should be your choice. Think of it this way, the insurance company guarantees you protection from market risks, can provide income for any time period (even lifetime), a guaranteed rate of return (interest) and they do so without charging fees or allowing expenses to be subtracted from your account values. To compensate them for their commitment to you, you must allow them to hold your funds for a longer period of time (than banks)
To protect themselves form a longer term commitment being changed to a short term scenario, insurance companies put in place a surrender charge to allow them to regain financial loss from you changing your mind. To help offset that for you, the insurance companies allow a percentage of your funds to be removed annually without any fee or charge. In most cases the amount is between 10% and 20% of your account value. In addition, you can convert your annuity to income without any surrender fee and of course all surrender charges are waived at death, your named beneficiary receives the entire amount.
You allow the insurances company to hold your money and in return you enjoy the benefits your contract provides.
One simple comparison about insurance and what is promised is your fire insurance policy. You trust your fire insurance policy to replace your home if it burns right? Your automobile and homeowners policy also? Your life insurance policy?
We naturally trust insurance companies to pay what they contractually agreed to pay. In addition to the annuity contract guarantees, the state Department of Insurance (DOI) also regulates and makes the insurance company keep sufficient reserves and funds available to cover any guarantee offered. If the insurance company does not follow these regulations, they are no longer allowed to provide product in that specific state and the DOI would take over their operations.
In addition, there are guarantees, guarantees that allow protection for your annuity contract. Each state provides these guarantees and the limits of those guarantees vary by state. The guarantee is known and the State Guaranty Fund and you may obtain specific information about what your state of residence guarantees by calling and state Department of Insurance.
More information can be found at: https://www.nolhga.com/policyholderinfo/main.cfm