are annuities better than stocks: a practical guide

Abstract

This guide addresses the question “are annuities better than stocks” for personal finance and retirement planning. You will learn what annuities and stocks are, how different annuity types compare to stock-based strategies on return, risk, taxes, liquidity and estate planning, and when annuities may be preferable or complementary to equities. Practical examples, metrics to evaluate offers, and a decision checklist are included.

As of 2024-12-01, according to Bankrate's retirement coverage, annuity payout rates and product features continue to vary widely by insurer and product type. As of 2024-11-15, U.S. News summarized common annuity pros and cons for retirees. As of 2024-10-20, Investopedia's retirement articles emphasized trade-offs between dividend strategies and lifetime-income annuities.

Why this question matters

The phrase are annuities better than stocks appears often in retirement planning searches because retirees face a core trade-off: predictable lifetime income versus long-term growth and liquidity. Answers depend on goals, time horizon, risk tolerance, tax status, and the exact annuity or stock strategy under consideration. This article gives a neutral, evidence-focused framework so you can evaluate choices for your situation.

Definitions and basic concepts

What is an annuity?

An annuity is a contract sold by an insurance company that can either accumulate funds with tax-deferred growth (deferred annuity) or convert a lump sum into a stream of payments (immediate annuity). Common types include fixed annuities, variable annuities, indexed annuities, immediate (income) annuities, and deferred annuities. Features often include guaranteed minimum payments, riders for lifetime income, surrender periods, and fees.

Key points:

• Fixed annuity: insurer credits an interest rate or guarantees a fixed payout.
• Variable annuity: payments depend on the performance of underlying subaccounts (similar to mutual funds) and may include riders.
• Indexed annuity: credited interest tied to an index performance with caps/floors.
• Immediate annuity: begins payments shortly after purchase; used for lifetime income.

What is a stock?

A stock represents ownership in a company. Common stocks provide capital appreciation potential and may pay dividends. Stocks can be held directly or via funds (ETFs, mutual funds). Dividend stocks pay portions of earnings to shareholders, offering an income stream that can change based on company performance and management decisions.

Key points:

• Stocks are liquid and trade on exchanges.
• Total return includes dividends plus capital gains (or losses).
• Dividend income often receives favorable tax treatment when qualified.

Purpose and role in a portfolio

Annuities are most often used to secure predictable income and reduce longevity risk—ensuring you do not outlive your money. Stocks are typically used for long-term growth, inflation hedging, and generating variable income through dividends. The two serve different primary objectives and can be complementary.

Types and variants relevant to the comparison

Annuity types and exposures

• Fixed annuities: low market exposure, insurer bears investment risk; predictable but limited upside.
• Variable annuities: investor bears market risk through subaccounts; payouts vary; often higher fees.
• Indexed annuities: limited upside tied to index performance via caps and participation rates.
• Immediate vs deferred: immediate converts principal to near-term income; deferred grows tax-deferred before future annuitization.

Insurer creditworthiness matters because guarantees are backed by the issuing company, not the federal government. State guaranty associations provide limited protection subject to caps.

Stock approaches

• Individual dividend stocks: concentrated exposure; dividend reliability depends on issuer.
• Growth stocks: focus on capital appreciation; often pay little or no dividend.
• Dividend ETFs/mutual funds: diversified dividend exposure; lower single-stock risk; expense ratios apply.

Different stock approaches change volatility, income reliability, and tax outcomes.

Key comparison criteria

Below are the principal dimensions used to answer are annuities better than stocks for a particular investor.

Return potential and long-term performance

Historically, broad U.S. equities have delivered higher long-term nominal returns than cash or comparable fixed annuity crediting rates. However, annuities offer locked-in payout levels (for fixed products) that remove market downside but cap upside. Variable annuities can track market returns but net returns may be materially reduced by fees and rider costs.

Illustrative point: over many decades, U.S. large-cap stocks averaged nominal returns in the mid-to-high single digits annually; fixed immediate annuity payout rates for a given age typically equate to lower implied yield after accounting for the insurance company retaining mortality credits and fees.

Risk profile

• Stocks: market volatility, sequence-of-returns risk, company bankruptcy risk for individual equities.
• Annuities: insurer credit risk, product complexity risk, interest-rate sensitivity for fixed annuities, and surrender risk.

Annuities shift longevity and market tail risk to the insurer (if guarantees are purchased) but introduce counterparty exposure.

Income predictability and guarantees

Annuities can provide predictable, potentially lifetime income. That predictability is their main selling point. Stocks and dividend strategies provide less predictable income—dividends can be cut and capital values fluctuate.

Fees and costs

Annuities commonly include commissions, mortality & expense charges, administrative fees, subaccount management fees (for variable annuities), rider fees (for guaranteed income), and surrender charges. These can materially reduce net return.

Stocks (and ETFs) usually feature lower explicit fees—commission-free trading is common and many ETFs have expense ratios well below 0.50%—but investors still face bid-ask spreads, taxes, and potential advisory fees.

Tax treatment

• Annuities: tax-deferred growth inside the contract for nonqualified annuities; withdrawals of gains taxed as ordinary income (LIFO/interest-first rules) for nonqualified annuities. Qualified annuities (held in an IRA) follow ordinary income rules on distributions.
• Stocks: dividends may qualify for lower long-term capital gains tax rates (if they are qualified). Capital gains on sold shares are taxed at capital gains rates; heirs generally receive step-up in basis.

Tax differences can be decisive for some investors; annuities can provide deferral but not the preferential capital gains tax treatment.

Liquidity and flexibility

Annuities often impose surrender charges and limit access for years. Withdrawals before certain ages or during surrender periods may incur penalties and taxes. Stocks are liquid; you can sell shares any trading day (subject to market conditions) and access funds quickly.

Inflation protection

Fixed annuities expose buyers to inflation risk because payments are nominal and fixed. Indexed or inflation-adjusted riders exist but increase costs. Stocks historically provide better protection against inflation through rising corporate earnings and dividend growth.

Estate planning and transfer to heirs

Annuities can complicate estate planning: nonqualified annuities pass according to contract terms and beneficiaries may owe income tax on gains. Stocks typically step up to market value at death (U.S. rules) and are easier to bequeath with clear basis adjustments.

Complexity and transparency

Annuity contracts are often complex and less transparent; riders and surrender schedules require close reading. Stocks/ETFs are generally transparent with public pricing, prospectuses and simple cost structures.

Counterparty and regulatory protections

Annuity guarantees rely on the insurer's financial strength. State guaranty associations offer limited, state-dependent protection with statutory caps. Stocks and funds operate in regulated markets overseen by the SEC; investors have protections like disclosure rules, but market losses are not insured.

Empirical evidence and illustrative metrics

Historical returns and volatility comparisons

Long-run U.S. equity returns have outpaced typical fixed annuity yields. For example, over the long term, U.S. equities have historically delivered higher average returns than plain-vanilla fixed annuity crediting rates, but equities exhibit significantly higher volatility.

Net investor outcomes depend on fees, product design, and timing. A variable annuity that tracks the market but charges high fees can underperform a comparable ETF after costs.

Sequence-of-returns implications

Withdrawals from a stock-heavy portfolio early in retirement can be vulnerable to poor market returns (sequence-of-returns risk). Annuities can reduce that risk by providing a baseline income regardless of market swings.

Cost-benefit examples (case studies)

Example 1 — Immediate annuity vs invested portfolio (illustrative only):

• Lump sum: $500,000 at age 65.
• Immediate lifetime annuity: assume an insurer offers a single-life immediate annuity paying $28,000/year (5.6% payout). Payments are guaranteed for life by the insurer (subject to solvency). No step-up in basis for heirs. Income taxed as ordinary income on the portion attributable to gain.
• Invested portfolio: $500,000 into a diversified dividend-and-growth portfolio aiming for a 4% withdrawal rate adjusted for inflation = $20,000/year initial. Total return volatility may cause portfolio depletion if markets perform poorly early.

Interpretation: the annuity provides higher initial guaranteed income but reduces liquidity and leaves little for heirs (unless a period-certain or refund option is purchased). The portfolio offers potential growth and inheritance but no guaranteed lifetime income.

Example 2 — Partial annuitization (50% buy-in):

• Buy an annuity for $250,000 to guarantee $14,000/year.
• Invest $250,000 in equities to seek growth and buffer inflation.

This hybrid can combine a floor of guaranteed income with upside potential.

Note: Example figures are illustrative to explain mechanics and trade-offs. Real annuity payout rates and portfolio returns vary by time, insurer, age, and market conditions.

When annuities may be preferable

• You prioritize guaranteed lifetime income and want to eliminate longevity risk.
• You have low risk tolerance and prefer predictability to market ups and downs.
• You need a predictable supplement to Social Security or a pension.
• You seek tax-deferred accumulation in a nonqualified account and accept ordinary income taxation on withdrawals.
• You want to reduce sequence-of-returns risk for a portion of retirement assets.

In these scenarios, annuities can play a constructive role, especially when issued by well-capitalized insurers and when fee structures are reasonable.

When stocks (or stock-based strategies) may be preferable

• You seek higher long-term growth and expect to outpace inflation.
• You require liquidity, flexibility, and simpler estate transfer rules.
• You are comfortable managing withdrawals, or you work with a fiduciary who can model sustainable withdrawal strategies.
• You prefer lower fees and transparent products like low-cost ETFs.

For many retirees, a diversified stock/bond portfolio or dividend strategy remains a core building block for long-term financial goals.

Hybrid and complementary strategies

Partial annuitization and income floors

Many advisers recommend partial annuitization: converting a portion of retirement savings into guaranteed income while keeping the remainder invested for growth. This creates an income floor and keeps upside exposure.

Techniques:

• Buy a single or series of immediate annuities at different ages (laddering).
• Purchase deferred income annuities that begin payments later to hedge longevity risk at lower cost.

Combining dividend stocks, bonds and annuities

Combining dividends, fixed income and annuities can smooth income and manage volatility. A ‘bucket’ strategy uses short-term bonds/cash for near-term needs, growth assets for later spending, and annuities for lifetime baseline income.

Variable annuities with riders vs diversified ETFs

Variable annuities with guaranteed lifetime withdrawal benefits can mimic an annuitized floor while leaving a death benefit. These products often charge material rider fees. Low-cost ETFs plus a conservative spending rule may achieve similar net outcomes for lower fees in some cases.

How to evaluate annuity offers and stock alternatives

Key metrics for annuities

• Insurer financial strength ratings and surplus levels.
• Payout rate (immediate annuity) or credited rate (fixed annuity).
• Rider cost and details (guarantees, step-ups, longevity commencement).
• Surrender period length and penalties.
• Tax treatment specific to product and whether the contract is qualified or nonqualified.
• Death benefit terms and options for beneficiaries.

Key metrics for stock solutions

• Expected dividend yield and dividend growth rate assumptions.
• Expense ratio for ETFs or mutual funds.
• Diversification across sectors and market capitalization.
• Historical volatility and downside capture metrics.
• Withdrawal rate sustainability (e.g., 4% rule sensitivity to market conditions).

Questions to ask a financial professional

• How does the annuity's payout rate compare to current market-implied rates for my age?
• What are the total fees over a 10–20 year horizon including rider fees?
• How will inflation affect my purchasing power with this annuity?
• If I die earlier than expected, what happens to remaining value or beneficiary payments?
• For stock strategies: what withdrawal rules and rebalancing plan do you recommend?

Red flags

• Excessive sales pressure or promises of unusually high guaranteed returns.
• Opaque rider language or undisclosed fees.
• Insurers with weak financial ratings for large guarantees.

Regulatory, tax, and consumer-protection considerations

• Annuity guarantees are backed by the insurer; state guaranty associations provide limited protection with caps and vary by state.
• Stocks and funds are regulated securities with disclosure and reporting obligations. Market losses are not insured, but fraud protections exist.
• Tax reporting differs: annuity gains may be taxed as ordinary income when withdrawn while qualified dividends and capital gains may benefit from preferential rates for stocks.

Readers should verify state-specific guaranty limits and consult a tax professional for personal tax implications.

Behavioral and psychological factors

• Peace of mind: many retirees value predictable checks even if the expected economic value is lower than a market strategy.
• Loss aversion: some choose annuities to avoid the emotional pain of market losses.
• Over-simplified decisions: buyers sometimes favor annuities because of a strong sales narrative rather than modeling net after-fee outcomes.

Understanding one’s own behavioral biases helps choose the right balance between guarantees and growth exposure.

Advantages and disadvantages — summary

Annuities — main advantages:

• Provide predictable, often lifetime income.
• Reduce longevity and sequence-of-returns risk.
• Can offer tax-deferred accumulation inside the contract.

Annuities — main disadvantages:

• Potentially high fees and surrender charges.
• Reduced liquidity and flexibility.
• Dependence on insurer creditworthiness; limited state guaranty protection.

Stocks — main advantages:

• Higher potential long-term returns and inflation protection.
• Liquidity and easier estate transfer (step-up in basis).
• Transparent, often low-cost vehicles (ETFs).

Stocks — main disadvantages:

• Market volatility and sequence-of-returns risk for retirees.
• Dividend income can be cut; no guaranteed lifetime income.

Frequently asked questions (FAQ)

Q: Will an annuity give me more income than stocks? A: It depends. Annuities can give a predictable lifetime income that may be higher than a conservative withdrawal from investments, but when comparing expected total economic value (including potential residual value and heirs), outcomes vary. Model after-fee and after-tax scenarios.

Q: Are variable annuities the same as mutual funds? A: Variable annuities invest in subaccounts similar to mutual funds, but they are insurance contracts with different tax treatment, fees, surrender terms, and possible riders.

Q: Can annuities protect against inflation? A: Plain fixed annuities do not protect well against inflation. Some products offer inflation adjustments or purchasing power riders, but these increase costs. Stocks historically provide better inflation hedging.

Q: What happens to my annuity when the insurer fails? A: State guaranty associations provide limited coverage which varies by state and is subject to caps. Large guarantees may exceed these protections.

Practical guidance and decision framework

1. Define objectives: Do you need lifetime income, growth, liquidity, or legacy?
2. Model cash flows: Compare after-fee, after-tax incomes from annuity offers versus portfolio withdrawals under multiple market scenarios.
3. Check insurer ratings: Use independent credit ratings to assess counterparty risk.
4. Consider partial annuitization: Buy guarantees for core needs and keep the rest invested.
5. Consult a fiduciary advisor and a tax professional for personalized analysis.

Remember: this article is informational, not personalized financial advice.

See also

• Dividend investing basics
• Retirement income strategies and withdrawal rules
• Fixed income and bond ladders
• Variable annuities and riders
• Estate planning for investment portfolios

References and further reading

Sources used to compile this guide include industry primers and comparative articles on annuities and stocks. Readers can consult the following sources for deeper reading:

• Annuity.org — Annuities vs. Stocks - Risk, Cost & Tax Exposure
• Bankrate — Annuities Vs. Dividend Stocks: Which Is Better For Retirement?
• Simply Safe Dividends — Pros and Cons of Annuities vs. Dividend Stocks
• Investopedia — Dividend Stocks or Annuities for Retirement?
• Farther — Annuities vs. Stocks: Which Is Better for Retirement Income?
• U.S. News — 19 Things You Need to Know About Annuities
• Northwestern Mutual and Guardian Life annuity primers

Editor notes: Emphasize neutrality: whether annuities are better than stocks depends on individual circumstances. For up-to-date insurer payout rates and ratings, check current insurer disclosures and independent rating agencies. Consult a licensed financial planner or tax advisor for decisions tailored to your situation.

If you want to explore educational tools, calculators, or learn more about retirement income options, discover Bitget's educational resources and wallet solutions to stay informed. For personalized planning, speak with a licensed fiduciary or tax professional.