Annuity vs 401(k)


Choosing the best retirement savings plan that suits your personal needs is one of the most crucial decisions a person needs to make. Some of the best options you can choose include annuities and 401(k) plans. The two prominent retirement saving plans have some similarities but also huge differences. Here is a detailed comparison of annuity vs. 401(k) that will help in your decision making.

Annuity vs. 401(K)

A 401(k) is a tax-deferred retirement account you get through your employer. The money is contributed to the account through regular deductions from your paycheck. You do not have to pay taxes on earnings contributed to the 401(k) when making them. An exception is on a Roth which you fund after-tax money.

The money in your 401(k) is invested in exchange-traded funds (EFTs), mutual funds, or other investments of your choice. On retirement, you can withdraw the funds and pay the taxes at that time. The funds in a Roth 401(k) are exempt from taxes since you have already paid during contribution.

An annuity is a life insurance policy designed to work as an investment. It is a contract between you and a life insurance company. The agreement involves you paying a huge premium or monthly premium which mature at retirement or upon death. The insurance company plegdes to pay a certain monthly amount.

You can fund an annuity with pre-tax money in a 401(k) by purchasing the annuity with after-tax money. Earnings from the annuity are taxable upon withdrawal, but the initial amount paid for the annuity is exempted from taxes like a Roth contribution.

Significant differences between Annuities and 401(k)s


Anyone can contribute to an annuity. For 401(k), only people whose employers have the 401(k) programs can contribute to one. A self-employed individual can set up a 401(k) account and make the contributions.

Another significant difference is on fees. Checking the fees you are paying for your 401(k) is straightforward. You can request for a detailed explanation of any fees charged from your account from the administrator. Annuity fees are significantly higher and hard to figure out. Some costs include the sales commission fees and benefit rider fees.

When you withdraw funds from the 401(k) before the age of 59.5, you may be charged a 10% early withdrawal penalty plus the income tax due on the amount withdrawn. Annuities have their own early withdrawal fees and annuity surrender fees. The annuity surrender fees reduce over time and disappear after five years.

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Another discrepancy between annuities and 401(k) accounts is that you can borrow from your 401(k), but you cannot borrow from an annuity. Most annuities have unchanging regular payments, thus no inflation protection.

Inheritance is another difference. Beneficiaries can inherit your 401(k) while annuity payments cease upon death. Some annuities allow the buyer to make higher payments and the amount paid to beneficiaries upon death.

Making withdrawals from annuities and 401(k)

One of the most significant differences between annuity and 401(k) is that annuity offers guaranteed payment over life. A 401(k) gives you as much money as you had contributed to it plus the additional investment earnings.

Even when the market is down, annuity payments keep on coming, but the 401(k) payments are subject to market cycles. When your investment choice on the 401(k) do well, you receive more earnings. You can only get more gains with an annuity if you take a chance with a variable annuity.

There are limits on the contribution you can make to a 401(k). The contribution limit in 2019 was $19,000. The threshold increases annually. If you are aged above 50 years, you can contribute an additional $6,000 a year. The contribution limit for 2020 is $19,500, and those aged over 50 can contribute an additional $6,500 a year. Your employer can as well match your all your contribution and increase the amount you will pay to your 401(k) account.

Annuities have no such limits. You can even make a one-time payment of $ 1 million. If you have maxed your 401(k), you can go for annuities.

Is an IRA an excellent choice for your retirement?


IRAs are ideal choices for modern retirement savings and are sponsored by employers. It is the next best choice after 401(k).


  • You have control over investment decisions, and you keep gains when investments do well.
  • You can pick the IRA that helps your tax situation
  • IRAs have low fees and are easy to understand the annuity fees
  • An IRA can be passed to a beneficiary
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  • You can run out of money in retirement if you do not save enough
  • You must make investment decisions (this primer on how to invest your IRA can help)
  • There is no guarantee on how well your investment will do and the amount you will get on retirement
  • You must pay attention to tax rules on whether to deduct it or pay it when taking the money out.

Is an annuity an excellent choice for your retirement?

If you worry about running out of money in old age, guaranteed payments are appealing.


  • You get guaranteed payments
  • You can select an annuity that pays you or you and your spouse until death
  • Selecting an annuity with death benefit allows you to name beneficiaries who receive the unpaid funds
  • High-income investors who have Maxed their 401(k) and IRA can use this option for tax deferral


  • The contributed amount is affected by inflation thus reducing its buying power
  • You have no say in investment choice under annuities
  • Higher fees as compared to IRA and have surrender penalty if you terminate the policy
  • You get a fixed return even when the investments have done exceptionally well

The biggest drawback of annuities is complexity.

What to know before buying an annuity?

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Annuities come with many models with varying time frames, lengths, and payment amounts

Types of annuities

Fixed annuity: You pay a premium, then after a period, you get a fixed payment.

Variable annuities: You choose investment options for your premiums, such as bond funds and mutual funds. Some have growth rates and minimum loss set.

Equity-indexed annuity: Tracks stock index like the S&P 500 and guarantee minimum interest payments.

When making an investment choice on complex products like annuities:

  • Shop around to understand how guaranteed payments vary
  • Consult a financial advisor who will give impacted advice on which annuity is right for you.
  • Ask questions and ensure you understand the product.


Proper planning is crucial for building finances for your golden years. If making the right retirement investment is overwhelming, consult a financial advisor like Beamalife to help you.