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Annuities are powerful resources that can help set you up for a better life after you retire. When used correctly, they can help people save up enough finances to continue to support their lifestyles after they are done working. But when not used properly, they can actually have a negative impact on your finances. Annuities in themselves are great, but there are some common misunderstandings of how they should be utilized that lead people to make poor decisions.

Annuity payments are always tax deductible.

Since payments to 401(k) and IRA plans are tax deductible, many assume that annuities follow a similar path. But what people don’t realize is that non-qualified annuities that aren’t helping to fund tax-advantaged policies are not allowed to be deducted from your taxable income.

Withdrawals won’t be taxed after retirement.

Once it comes time to start withdrawing money from an annuity, some might think they don’t have to pay taxes on the money they are taking out. That is not entirely true. The first few withdrawals that you will make will still be taxed. The only time you will not have to pay taxes is once the value of the annuity that you have dips below the amount you were paying in your premiums.

Money can be taken out of an annuity at any point.

Just because this is technically your money does not mean that you can pull money from it whenever you wish. If you take money out before you reach a certain age, you will have to pay a federal tax penalty, which is typically 10%. There are a few instances where you could qualify to have this penalty waived, and we have helped individuals with these types of strategies, but it isn’t common. This money should be considered illiquid up until age 59 ½.

If I don’t want to contribute to an annuity anymore, I can cancel it.

Like with any contract, once you sign and officialize it, it is very difficult, if not impossible, to get out of it. You can’t just cancel an annuity because you change your mind – it’s not that simple. There is a short period of time after you sign the contract called the Free Look Period, which means that you have 30 days to change your mind with no repercussions. After that time period, however, the only way you can terminate an annuity is to pay a 10% penalty fee, which is just going to be money wasted.

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