Although fixed deferred annuities are a relatively safe investment, there are also reasons why people tend to shy away from them. They include the following:
Low liquidity: Generally, if you take more than 10 percent of your money out of your fixed annuity during any single year of the surrender period, you pay a charge. You can avoid charges by buying a fixed annuity with a short surrender period or by using other sources of cash for emergencies.
Contracts with longer surrender periods typically pay higher rates, but don’t be lured into tying up your money for longer than you can afford to.
Uncertain returns: With single-year guarantee fixed annuities, you don’t know the exact interest rate after the first year.
Based on past renewal-rate histories, the rates on these contracts either stay the same or decline gradually after the first year. Rates are especially likely to fall if the annuity offers a first-year bonus.
Lower returns when bond-yield curve is flat: When the yield curve is flat — that is, when long-term interest rates are the same or lower than short-term rates, as they were during the mid-2000s — you may get a better rate from a CD. (You can find an illustration of the yield curve in the business section of the Sunday New York Times.)
Federal penalty for early withdrawal: If you withdraw money from a fixed annuity before age 59½, you may have to pay a penalty (10 percent of the amount withdrawn) to the IRS. Under certain circumstances such as illness, you can withdraw money from an annuity before this age without a penalty. You may also be able to withdraw the money penalty free by taking Substantially Equal Period Payments, or SEPPs, over a minimum of five years.
The penalty is Uncle Sam’s way of discouraging Americans from using annuities and other tax-deferred investments for anything but saving for retirement.
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Source:http://www.dummies.com/how-to/content/the-drawbacks-of-fixed-annuities-as-investments.html
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