Have you contributed the maximum amount allowable to your other retirement vehicles, such as an IRA or 401(k)? These vehicles usually offer tax advantages and carry lower costs than an annuity, but are limited to how much you can contribute annually. Nonqualified annuities (funded with after-tax dollars) don’t have a legal limit on the amount you can invest each year (contractual limits may apply, however).

Consider your current tax bracket and what it is likely to be when you plan to take distributions (usually at retirement). In general, the higher your current bracket, the more you’ll benefit from an annuity (the benefit of tax deferral may outweigh the higher costs). Keep in mind, however, that at distribution the earnings from tax-deferred vehicles (including variable annuities) are taxed as ordinary income. 

Remember that an annuity is designed as a long-term investment—you’ll benefit the most from tax-deferred compounding if you plan on holding your annuity for several years.  If you withdraw money from an annuity contract (and many other retirement vehicles) before you reach age 59½, you may be liable for income taxes on earnings and a 10% federal tax penalty. 

Before investing in an annuity, it is important to set aside money to meet your other financial goals (such as a home purchase or college tuition), as well as to cover emergency expenses for about 6 months.  Consult your tax attorney or financial services professional before deciding whether an annuity is right for you.