Annuities and the elderly — what they are and when they make sense
Reviewed by the How To Help Your Elders editorial team
Your parent mentions that someone called about an annuity, or a relative suggests buying one for guaranteed income. You look it up and find articles calling annuities terrible rip-offs right next to articles promising lifetime security. The confusion is real because annuities are genuinely useful for some older people and genuinely harmful for others. The difference is not the product itself. It is whether the specific contract matches your parent's actual needs, timeline, and health situation.
An Annuity Is a Bet on How Long Your Parent Will Live
An annuity is a contract between your parent and an insurance company. Your parent gives the company a lump sum now, and the company promises to pay money back over time, usually monthly for life or for a set number of years. What makes this different from a savings account is that the insurance company is making a guarantee about the future and taking a financial risk by doing so.
The most common reason someone buys an annuity is to create income they cannot outlive. If your parent lives to 95 and their savings would have run out at 88, an annuity that pays for life solves that problem. The insurance company is betting on life expectancy tables. If your parent lives exactly to the average age, the company breaks even. If they live longer, the company loses money on that contract. If they live shorter, the company profits. According to the Society of Actuaries, about one in three 65-year-olds will live past age 90, which means longevity risk is a real concern for many families, not a theoretical one.
There are several basic types, and the names matter. A fixed annuity pays a guaranteed monthly amount that does not change regardless of market conditions. A variable annuity ties payments to investment performance, so payments can go up or down. An indexed annuity is a middle ground, with payments tied to a market index but protected by a floor (payments cannot drop below a set amount) and limited by a cap (payments cannot rise above a set amount). The insurance company profits by capturing market gains above the cap while your parent gets the security of the floor.
Where Annuities Cause Problems
The costs are where most annuities hurt people. Most come with surrender charges. If your parent gives an insurance company $200,000 and wants it back after five years, they might only get $170,000. The company keeps $30,000 as the cost of their guarantee. This makes annuities illiquid, and getting money out early is expensive.
Many annuities also carry annual fees of 1% to 2% or more of the account balance. Over decades, those percentages eat into the value significantly. An annuity with a 1.5% annual fee costs far more over time than a traditional investment account where fees might be 0.1% or less. According to FINRA, the average total cost of a variable annuity, including mortality and expense charges, administrative fees, and underlying fund expenses, can exceed 2% annually.
Variable annuities come with additional complexity: subaccount fees on each investment option, plus optional riders that cost extra. A long-term care rider might let your parent access some of the annuity early for nursing home costs, but riders have their own costs and limitations that are easy to miss in the sales presentation.
The thing that affects your parent's care situation most directly is that annuities are not designed for short-term flexibility. If your parent buys an annuity at 72 and needs expensive care at 75, that money may not be accessible without paying heavy surrender charges. If your parent's health changes and you realize you need liquid assets for healthcare costs, an annuity becomes a liability rather than a resource. Some annuities have nursing home riders that waive surrender charges if care is needed, but these cost money upfront and have their own limitations.
Questions to Answer Before Buying
Before your parent commits to an annuity, several things need to be clear. Does your parent actually need one? Many people with adequate Social Security, a pension, and reasonable savings do not need additional guaranteed income. For them, an annuity converts flexible money into a locked-up insurance obligation without solving a problem they actually have.
What is your parent's life expectancy? Annuities work best for people who live longer than average. If your parent has significant health issues and a below-average life expectancy, an annuity is a bad deal. The insurance company designed it to profit on people who die at or before average age. People who live much longer get the benefit. If your parent is 85 with serious health conditions, an annuity purchase does not make sense.
How much liquid money does your parent have outside of retirement accounts? You do not want all of your parent's money in an annuity. If your parent has $300,000 in savings and puts it all into an annuity, they have zero liquid emergency funds. If they put $100,000 in an annuity and keep $200,000 liquid, that is far safer.
Who is selling this annuity, and what do they earn on the sale? Many annuities come with commissions of 5% to 7% to the salesperson. On a $100,000 sale, that is $5,000 to $7,000 in the salesperson's pocket. According to the Consumer Financial Protection Bureau, high-commission financial products are one of the leading sources of elder financial exploitation. If a salesperson is pushing hard, that is a red flag. A fiduciary advisor, someone legally required to put your parent's interests first, will give more balanced guidance.
Is the annuity being purchased with retirement account money? Annuities bought inside a 401(k) or IRA are already tax-deferred, so buying a tax-deferred annuity inside a tax-deferred account is paying for a feature your parent already has. Non-qualified annuities purchased with after-tax money offer tax deferral that can be genuinely valuable.
If Your Parent Is Considering or Already Owns One
If your parent is considering an annuity, slow down. Do not make this decision in a week. Do not make it based on a phone call from a salesperson. Get a second opinion from someone who does not earn commission on the sale. This might be a fee-only financial planner, a certified financial planner, or your parent's CPA. Show them the specific contract and ask whether it makes sense for your parent's situation.
If your parent decides to move forward, insist on reading the full contract, not the glossy sales brochure. The contract explains surrender charges, fees, riders, and conditions. Have an advisor or attorney translate it. Ask the insurance company for a detailed illustration showing what happens year by year: fees deducted, account balance projections, and income payments. Ask specifically what happens if your parent needs money for care, becomes disabled, or dies.
Confirm the insurance company's financial strength through AM Best ratings. A company rated B+ or higher is generally sound. A lower rating means more risk that the company may not be able to honor its promises decades from now.
If your parent already bought an annuity they regret, there may be options. Some annuities can be exchanged for other products tax-free under Section 1035 of the tax code. Some have free look periods that may still be active. If your parent believes they were sold something inappropriate, a securities attorney can evaluate whether there are grounds to challenge the sale. The state insurance commissioner's office also accepts complaints about improper annuity sales.
If your parent already owns an annuity and you are just discovering it, track down the contract and understand what it is. Get the current surrender value, understand the fees, and know what payments your parent is receiving. Some older annuities are good contracts that made sense when purchased. Some are problematic. Knowing what you have is the first step to deciding what to do next.
Frequently Asked Questions
Are annuities a scam?
No. Annuities are legitimate insurance products that serve a real purpose for people who need guaranteed income they cannot outlive. The problems arise when annuities are sold to people who do not need them, when the costs are not clearly explained, or when the product does not match the buyer's actual situation. The product is not inherently bad. The sales process sometimes is.
What happens to the annuity money if my parent dies early?
It depends on the contract. With a life-only annuity, the insurance company keeps any remaining balance when your parent dies. With a period-certain option, payments continue to a beneficiary for a guaranteed number of years. With a joint and survivor annuity, payments continue to the surviving spouse. The choice affects both the monthly payment amount and what happens to the money after death.
Can my parent get their money back from an annuity?
During the surrender period, which typically lasts 5 to 10 years, your parent can withdraw money but will pay surrender charges that often start at 7% or more and decrease over time. After the surrender period ends, withdrawals are usually penalty-free. Some contracts allow annual withdrawals of up to 10% without penalties even during the surrender period.
Should my parent buy an annuity if they might need nursing home care?
Generally, committing large amounts to an annuity when nursing home care is a near-term possibility is risky because the money becomes illiquid. If your parent has a strong likelihood of needing care within a few years, keeping assets liquid provides more flexibility. Some Medicaid-compliant annuities exist, but they are specialized products that require guidance from an elder law attorney.
How do I tell if the person selling the annuity is trustworthy?
Ask whether they are a fiduciary, legally required to put your parent's interests first. Ask about their commission on the sale. Check their background through FINRA BrokerCheck or the SEC's Investment Adviser Public Disclosure database. If they resist answering these questions or pressure your parent to decide quickly, those are serious warning signs.