Those evil annuities!
If you have spent any amount of time in internet-ville you've probably seen those "free reports" describing the pitfalls of using annuities to grow your nest-egg. The implication is that shady insurance agents are out there pushing these highly questionable financial vehicles, without telling clients the whole truth about them.
Well, as a fiduciary, how would I rate these things? Would I recommend an annuity for one of my clients? For myself? My Mom?
I'd like to take a few minutes to discuss some of the chief objections to annuities, and then my thoughts on those objections, followed by a summary. So here goes...
The objections most referenced are:
1. These products have a high commission.
Well, now that may or may not be true. Some annuity companies do, in fact, pay too high a commission rate. But remember that a typical annuity contract stretches over 7-10 years. So, if a commission rate of 7% is paid, that runs out to less than 1% a year! And keep in mind that not one penny of that commission comes out of the principal amount. Compare that to load funds that may charge up to 8.5% (avg. is 5.75%) over that same period, have transaction fees , investment advisory fees, marketing fees, and maybe even a back-end load when you sell! The biggest reason that stockbrokers don’t like annuities is because they are the chief competition to their perpetually charging funds.
2. You are locked into the product for too long.
Again....that depends. How long is too long? Annuity terms can range from 3 years to 14 years. If a bank CD is offering a 3 year rate of 1.1% and a 3 year annuity 2.25%, then the annuity is a no brainer. A longer term annuity may be paying a handsome bonus upon rollover. I've seen bonuses north of 10% on some annuity products, along with an attractive rate of return. The reason folks purchase annuities are for safety, not growth. In my opinion, for the most part, retirees should be focusing more on income than growth. And annuity products can excel at providing retirement income. If liquidity is your uppermost concern, then an annuity isn't a wise choice.
3. You are just giving your money to the insurance company when you purchase an annuity.
The strict definition of an annuity is " a systematic distribution of a sum of money." Many retirees today are purchasing annuities which include an income rider. This rider will provide a very attractive rate of return, and payout percentage when you retire. In return for this the purchaser is leaving his nest-egg in the hands of the insurance company. However, if properly designed, every penny of it will be paid either to the buyer or your beneficiary.
There are a number of other objections that can be raised when considering annuities. I'll try to address some of these in later blog posts. Certainly, annuities are not always a wise choice, and I'm not trying to favor them here. But it's important that you consider the pros and cons of both annuities, and other financial solutions when making up your mind. What kind of problem are you trying to solve? What will be the tax implications of each solution? I have clients that would never consider putting anything into an annuity, and others who could never be talked away from them. I will say that I have never lost any sleep over market corrections where it concerned client's money placed in annuities.
Annuities have both pros and cons. But so does putting your money with Wall Street. You should carefully look at all of them before making any financial decision.
What are your thoughts on this? Let's discuss...