Annuities: The Bad, the Worse and the Ugly
I must start off by saying this is completely my opinion, but I can’t stand annuities. You’ll read the term “in my opinion” a lot through this article which will highlight the fact I’m mostly on my own in these opinions. Based on my experience in the financial services industry, the main benefit I have seen when someone buys an annuity goes to the insurance company who holds the annuity and the advisor/agent who sold it.
Now before I get hate mail, let me clarify my position. I do think in some circumstances annuities have a place, however that place is a lot less than they are being sold and again in my opinion, a lot less than they are needed. The annuity industry is enormous and produces revenues to the companies selling the products of $882 Billion annually per IBIS World report on Life Insurance & Annuities in the US Market (March 2017). This industry employs over 348,000 people with 780 different businesses selling products.
Here are my main points of issue:
First, an annuity generally speaking is the combination of an insurance product and an investment. I feel that is an expensive way to both get an investment and buy insurance.
Second, the agent selling the annuity still to this day receives up front commission when selling the annuity. On the surface if fully disclosed that’s not such a bad thing, but any product that puts the advisor and the client on the opposite side does not lead to a win/win relationship, “in my opinion”.
Third, after they have been sold, there is still a lot of work that needs to be done, including managing the investments inside the annuity, anniversary and step up figures, managing withdrawal amounts, and monitoring both living and death benefits, and that’s just a quick highlight. Again, based on what I’ve seen, many annuity contracts are neglected and not managed and I can only conclude that its due to no or little consideration.
Fourth, they are complicated vehicles with many different “rider” options and calculations that only a select few can understand. Wikipedia has a link to formulas used to calculating present value etc. Take a look: https://en.wikipedia.org/wiki/Annuity
Fifth, they have a complicated tax structure. Annuities generally are a tax deferred vehicle however they do have tax consequences when received by beneficiaries that are not spouses.
Sixth, they are EXPENSIVE. Fees include M&A Fees, Riders such as living and death benefits as well as the “sub accounts” (mutual funds) you invest in. I’ve seen all in fees upwards of 4% annually. There are also generally surrender fees if you want to take your money out within the first number of years. The general fee that advisors/agents receive are somewhere between 4-8% upfront.
Lastly, I find too few many clients understand the difference between a Contract value and the Benefit value. I’ve heard from clients that they purchased the annuity due to the fact if they didn’t touch it for 10 years it was guaranteed to double. It’s the living benefit that is being guaranteed which means that you will be receiving the income from the living benefit and not a lump sum.
Now if you have an annuity, don’t take this article the wrong way, you still have an investment and insurance product and your focus now should be ensuring that you receive the maximum possible from the insurance company that has underwritten the contract. There are numerous things that you can do, too many to list in this short article, but first is ask your advisor, “am I maximizing the benefits out of this annuity?” If, however you are no longer with the advisor that sold you the contract “shocker” then you should have the contract reviewed by another advisor. My practice inherited a lot of annuity contracts from a retiring advisor and I can tell you first hand that there is a lot you can do and need to know about.
If you are considering purchasing an annuity, let me tell you when I think they are appropriate. I’ve only sold a couple of annuity contracts in my career and in both cases the client told me this. “The market freaks me out, and I can’t stand watching it every day. I have $XX and I know I can live on 5% of this each year.” In this case the client is selling the market risk to an insurance company, and that makes perfect sense to me.
In summary, if you are considering an annuity, get both sides of the story not just what the person selling you and if you already have an annuity ask the question are you getting the maximum out of it. If you don’t have someone to review it for you, give us a call.
Regards,
Any opinions are those of Mick Graham and not necessarily those of RJFS or Raymond James. Expressions of opinion are as of this date and are subject to change without notice. Investing in stocks always involves risk, including the possibility of losing one's entire investment. There is no guarantee that any statements, opinions or forecasts provided herein will prove to be correct. The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any withdrawals may be subject to income taxes and, prior to age 59 1/2, a 10% federal penalty tax may apply. Withdrawals from annuities will affect both the account value and the death benefit. The investment return and principal value will fluctuate so that an investor's shares, when redeemed, may be worth more or less than their original cost. An annual contingent deferred sales charge (CDSC) may apply.
Before investing, investors should carefully consider the investment objectives, risks, charges and expenses of the variable annuity and its underlying investment options. The current contract prospectus and underlying fund prospectuses, which are contained in the same document, provide this and other important information. Please contact your representative or the Company to obtain the prospectuses. Please read the prospectuses carefully before investing or sending money. Variable annuities are generally considered long term investments.
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