Variable annuities and mutual funds both offer investors the benefits of professional money management. In fact, variable annuities offer a menu of investments that look just like mutual funds called subaccount funds. Sometimes they even have very similar names. Variable annuity mutual funds, and mutual funds are cousins, not identical twins. Want to know the difference? This article is for you.
Variable annuities have many features and details. Searching through the options can be time-consuming. A professional independent insurance agent can simplify the process and guide you through it.
What Is a Mutual Fund?
Mutual funds have been around since 1929. In fact, one of Vanguard's funds, the Wellington fund, has been in continuous operation since 1929. Mutual funds are investment companies and are regulated by the Investment Company Act of 1940, and the Securities Exchange Acts of 1933 and 1934. The US Securities and Exchange Commission is the enforcement agency.
Mutual funds pool money from investors and manage it on their behalf. The money is invested in stocks, bonds, or cash equivalents according to the fund's investment objective. Investors own shares in the mutual fund. The price of each share is the value of the underlying securities divided by the number of shares at the end of the business day.
Mutual funds are either "diversified" or "non-diversified." Diversified funds can't have more than 5% of the fund's total value invested in any one issuer. Non-diversified funds usually concentrate in particular industries and invest in fewer companies, for example, in a technology fund. Some mutual funds invest in other mutual funds to achieve a specific objective. These mutual funds are called fund of funds.
Mutual funds distribute capital gains and dividends to shareholders. They are taxable in the year they are distributed. Mutual funds are eligible for capital gains tax treatment.
Mutual Fund Fees and Expenses
Mutual funds charge several different fees and expenses to investors. Common charges are:
Front end sales load: This is paid when share is purchased.
Contingent deferred sales load: This is paid when shares are redeemed. The CDSL usually reduces to 0 after a period of time.
12b-1 fees: This is an annual fee to cover the cost of sales and marketing.
Investment management fee: This is paid to the fund's investment advisor.
Mutual fund companies use share classes to offer investors different combinations of fees and expenses. Common classes are A, B, and C.
Variable Annuity Mutual Funds (Subaccount Funds)
A variable annuity is an insurance product that is treated as an investment company. Variable annuities offer a menu investment options called subaccount funds. These funds invest money in the same way that a mutual fund does, and the fund is valued in the same way at the end of the business day. But there are some important differences.
Ownership: When you purchase a variable annuity, your payment is allocated to the subaccount funds of your choice. The value is represented by units, not shares. That's because the variable annuity investment company owns the subaccount investments. The units are used to value your share of those investments.
Fees And Expenses: Subaccounts don't have sales loads or CDSL. These charges are imposed at the variable annuity level. Each subaccount has its own investment management and 12b-1 fees.
Share Classes: Subaccount funds don't have share classes. Share classes are at the variable annuity level.
Distributions: Capital gains and dividends are reinvested into the subaccount by the variable annuity investment company. They are not taxable to the variable annuity owner. There are no taxes when a subaccount is sold and transferred to a different subaccount. Taxes are paid when the owner takes distributions.
What It All Means
When you invest money in a mutual fund, you pay the fees and expenses to that fund. Capital gains and dividends are taxable when they are distributed. The value of your investment is measured by the price of your shares.
When you buy a variable annuity, the money is allocated to multiple investment options. Capital gains and dividends are tax deferred. The value of your investment is measured by accumulation units. Want to know more? Independent Insurance agents are annuity professionals. They can help you decide if a variable annuity is right for you.
TrustedChoice.com Article | Reviewed by Jeffrey Green
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