Annuities vs. Stocks

Investors saving for retirement must consider vehicles that can drive portfolio growth. Both variable annuities and common stocks are appropriate choices to fill this crucial role. They both offer growth potential. But they have different risk profiles, costs of ownership (fees and expenses) and unique income and estate tax considerations. So which one should investors own?

Anthony Termini, Financial Expert
Fact Checked
Fact Checked

Annuity.org partners with outside experts to ensure we are providing accurate financial content.

These reviewers are industry leaders and professional writers who regularly contribute to reputable publications such as the Wall Street Journal and The New York Times.

Our expert reviewers review our articles and recommend changes to ensure we are upholding our high standards for accuracy and professionalism.

Our expert reviewers hold advanced degrees and certifications and have years of experience with personal finances, retirement planning and investments.

Cite Us
How to Cite Annuity.org's Article

APA Termini, A. (2022, June 10). Annuities vs. Stocks. Annuity.org. Retrieved June 25, 2022, from https://www.annuity.org/annuities/strategies/annuities-vs-stocks/

MLA Termini, Anthony. "Annuities vs. Stocks." Annuity.org, 10 Jun 2022, https://www.annuity.org/annuities/strategies/annuities-vs-stocks/.

Chicago Termini, Anthony. "Annuities vs. Stocks." Annuity.org. Last modified June 10, 2022. https://www.annuity.org/annuities/strategies/annuities-vs-stocks/.

Why Trust Annuity.org
Why You Can Trust Annuity.org
Annuity.org has provided reliable, accurate financial information to consumers since 2013. We adhere to ethical journalism practices, including presenting honest, unbiased information that follows Associated Press style guidelines and reporting facts from reliable, attributed sources. Our objective is to deliver the most comprehensive explanation of annuities and financial literacy topics using plain, straightforward language.

Our Partnerships, Vision and Goals

We pride ourselves on partnering with professionals like those from Senior Market Sales (SMS) — a market leader with over 30 years of experience in the insurance industry — who offer personalized retirement solutions for consumers across the country. Our relationships with partners including SMS and Insuractive, the company’s consumer-facing branch, allow us to facilitate the sale of annuities and other retirement-oriented financial products to consumers who are looking to purchase safe and reliable solutions to fill gaps in their retirement income. We are compensated when we produce legitimate inquiries, and that compensation helps make Annuity.org an even stronger resource for our audience. We may also, at times, sell lead data to partners in our network in order to best connect consumers to the information they request. Readers are in no way obligated to use our partners’ services to access the free resources on Annuity.org.

Annuity.org carefully selects partners who share a common goal of educating consumers and helping them select the most appropriate product for their unique financial and lifestyle goals. Our network of advisors will never recommend products that are not right for the consumer, nor will Annuity.org. Additionally, Annuity.org operates independently of its partners and has complete editorial control over the information we publish.

Our vision is to provide users with the highest quality information possible about their financial options and empower them to make informed decisions based on their unique needs.

The answer is that it depends. The differences between variable annuities and common stocks are more subtle than many believe. But they do share the most important element — they are both investments in the stock market.

A variable annuity provides an investor the flexibility to pursue any investment strategy. The reason for this is that their investment performance is dependent upon the underlying portfolio, which is typically made up of different mutual funds. Variable annuities can provide exposure to any asset class.

An annuity investor seeking growth can create a portfolio consisting solely of common stock funds, either managed or indexed. The main difference between this and owning stocks outright is that the portfolio is inside an annuity. Everything else is pretty much the same — same asset class, same type of returns, same investment risk. But the annuity provides additional features that are not available through common stock ownership.

Annuities Have Advantages over Stocks

The most significant advantages annuities offer are tax-deferred growth and tax-advantaged income. As the annuity grows over time, the capital gains generated by the underlying funds are not taxed. Neither is any income generated by the portfolio. That money keeps working in an annuity’s portfolio.

Common stock investors pay tax on both capital gains and dividends if the money is not held in a retirement account. This reduces net return.

When the annuity investor eventually takes income, only a portion of it is taxable. The payments received include a return of principal, which isn’t taxed. This creates a larger net income stream than would be available from a similar amount invested in dividend stocks or even bonds.

While annuity investors have the same market risk as other equity investors, they can reduce that risk by adding a rider to protect against loss should the underlying stocks not perform as expected. Another valuable rider that can be added is a minimum death benefit that conveys the annuity’s value and income stream to a named beneficiary. Investments in common stocks don’t have either of these provisions.

How to Diversify Your Portfolio

Costs and Risks of Owning Annuities

Additional riders, however, don’t come cheap. They increase the cost of owning annuities, which, in general, is more expensive than owning common stocks. The biggest potential expense is related to an annuity’s liquidity — or lack thereof. Unlike common stocks, annuities can’t be bought and sold in a single day.

Annuities should not be viewed as assets whose value is readily available and can be tapped into whenever needed. That’s a benefit of stocks that annuities don’t have. Investors must also understand that annuities tie up funds for long periods of time. This creates “liquidity risk” — the risk that you can’t get to your money when you need it. Liquidity risk is quantifiable, and poor planning can be expensive.

All annuities incur surrender charges if sold within a predetermined time period. Surrender charges can be as high as 10 percent in some cases, so it is very possible for an investor to lose money in an annuity. A poorly timed sale subjects the investor to both market risk and potentially high transaction costs. This is why asset diversification and proper planning are so important.

Other Tax Considerations

Proper planning also means considering how assets will be treated when they pass to heirs. Common stock investments enjoy a step up in basis. Any unrealized capital gain built into their value disappears and is included in the beneficiaries’ new stepped-up cost basis. That’s not the case with annuities. Earnings on an inherited annuity are taxable to the beneficiary.

There is, however, one other advantage annuities have over common stocks. Annuities offer investors the ability to time income in a way that maximizes Social Security benefits. Investments in common stocks can’t do this.

Retired couples that earn more than $32,000 must pay income tax on up to 50 percent of their Social Security benefits. Those who earn more than $44,000 may pay taxes on up to 85 percent of their benefits. Timing annuity payouts to begin when other sources of income have declined or have been exhausted can mitigate these taxes.

Passive Income Streams

So Who Should Buy an Annuity?

Investors seeking to maximize retirement income are great candidates for annuities. And studies have shown that “annuitized income increases the optimal stock allocation of a household’s investment portfolio.” Investors looking for portfolio growth throughout retirement would also be well advised to own annuities.

Those not yet retired who are looking for tax-deferred growth are also good prospects for annuity ownership. So are investors looking for portfolio diversification beyond traditional stock, bond and cash holdings. Equity investors looking for a death benefit for heirs would likewise be a good fit for owning annuities as would residents of certain states who want asset protection against a lawsuit. And anyone concerned about outliving their money might want to explore the benefits annuities provide.

Annuities are beneficial for:
  • Investors looking for portfolio growth
  • Income-seeking investors
  • Retirees trying to maximize Social Security
  • Those who want to pass on a legacy
  • Residents of certain states who are interested in asset protection

In their final analysis, investors looking to drive portfolio growth should consider annuities in addition to individual stocks. Both can deliver the performance necessary to finance one’s retirement.

The same is true for those interested in a combination of growth and income. This is what high-yielding dividend stocks can deliver. And, here again, investors can gain exposure to this type of portfolio by owning the individual common stocks themselves or by owning annuities. As noted previously, any investment strategy that can be accomplished using common stocks can be achieved with variable annuities.

Because the two investments can be used to finance the same objective, some may conclude that they are mutually exclusive and that investors should not own both. This is not necessarily so.

The death benefit that annuities offer and their income deferral feature make them completely appropriate for many investors. Including them in a well-diversified portfolio of stocks and bonds can help investors achieve specific planning objectives that common stocks alone cannot provide.

It is always important to seek the guidance of an experienced financial advisor who can help you navigate through the various opportunities available to reach different, time-specific consumption goals.

Please seek the advice of a qualified professional before making financial decisions.
Last Modified: June 10, 2022

8 Cited Research Articles

Annuity.org writers adhere to strict sourcing guidelines and use only credible sources of information, including authoritative financial publications, academic organizations, peer-reviewed journals, highly regarded nonprofit organizations, government reports, court records and interviews with qualified experts. You can read more about our commitment to accuracy, fairness and transparency in our editorial guidelines.

  1. Baily, M. and Harris, B. (2019, June). Can annuities become a bigger contributor to retirement security? Retrieved from https://www.brookings.edu/wp-content/uploads/2019/06/ES_20190624_BailyHarris_Annuities.pdf
  2. Blanchett, D. and Finke, M. (n.d.). Journal of Financial Planning. Annuitized Income and Optimal Equity Allocation. Retrieved from https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3041717
  3. Johnson, G. (1959, February). The Journal of Insurance Vol. 25, No. 4, pp. 17-21. The Market for Equity Annuities. Retrieved from https://www.jstor.org/stable/250263?read-now=1&refreqid=excelsior%3Aa9243c06350c979aa10320ed268a0784&seq=1#page_scan_tab_contents
  4. Merton, R. (2014, July). Harvard Business Review. The Crisis in Retirement Planning. Retrieved from https://hbr.org/2014/07/the-crisis-in-retirement-planning
  5. National Association of Insurance Commissioners. (2007). Buyer’s Guide to: Fixed Deferred Annuities. Retrieved from https://www.naic.org/documents/prod_serv_consumer_anb_lp.pdf
  6. U.S. Securities Exchange Commission. (n.d.). Variable Annuities. Retrieved from https://www.investor.gov/introduction-investing/investing-basics/investment-products/insurance-products/variable-annuities
  7. U.S. Securities Exchange Commission. (n.d.). Variable Annuity Charges. Retrieved from https://www.sec.gov/investor/pubs/varannty.htm#vch
  8. Yaari, M. (1965, April 1). The Review of Economic Studies, Volume 32, Issue 2, Pages 137–150. Uncertain Lifetime, Life Insurance, and the Theory of the Consumer. Retrieved from https://academic.oup.com/restud/article-abstract/32/2/137/1555438?redirectedFrom=fulltext