Want to Learn about Annuities?
Good, you came to the right site. In the coming weeks, you are going to learn enough about annuities to help you decide if annuities fit in your financial plan or if you should avoid them like the plague. To begin, let’s talk about four annuities and some of their basic characteristics:
Immediate Annuity: The Personal Pension
The immediate annuity is essentially a personal pension and in my opinion and is probably the annuity most people think of when they think of an annuity. Immediate annuities pay a specified amount of money for either a specific time or a lifetime. When you buy an immediate annuity, you choose your income option up front and it cannot be changed. Income choices include:
- Period Certain and
- Life with period certain
If the life option is selected, the insurance company guarantees your income as long as you live. In exchange for the income guarantee, the insurance company also controls the corpus of your deposit-if you pass away, the insurance company keeps the remaining payments. Alternatively, if you choose the life with period certain option you receive income for the rest of your life but if something happens to you before a certain time period, your beneficiary will continue to receive payments for a specific amount of time.
10 Year Period Certain Example:
Mrs. Trump chooses an immediate annuity and selects the life with a 10 year period certain payout. If Mrs. Trump passes away in year three of the contract, her beneficiaries will receive payments for the 7 remaining years.
The payment you receive from your immediate annuity is based on several factors including the deposit amount, pre calculated interest rates, and how long the insurance company expects the client to live (mortality tables). Currently, life expectancy is near all time highs and interest rates are near all time lows making alternatives to immediate annuities more attractive for most retirees.
Traditional Fixed Annuity: Arch-rival to a CD at the Bank
Fixed annuities can look, feel, and are often compared to a certificate of deposit (CD) at the bank but in many cases pay a higher interest rate. Don’t be confused, annuity guarantees rely on the financial strength and claims-paying ability of the issuing insurance company and are not guaranteed by any bank or the FDIC. Moving forward:
- Traditional fixed annuities provide an interest rate that can be changed by the insurance carrier once per year but offer a guaranteed minimum interest rate for a specified time period. It’s common to receive an upfront or 1st year bonus to increase the long term return on the contract. Beware, many insurance agents will only share the ‘up front’ rate and will mislead your probably rate of return. Traditional fixed annuities usually carry a higher guaranteed ‘real’ rate of interest than fixed indexed and immediate annuities. For free fixed annuity rates click here.
- Multi year guaranteed annuities or MYGA’s are also under the traditional fixed annuity basket. MYGA’s pay a specific interest rate for a specific amount of time. The interest rate will not change during the life of the MYGA contract regardless of interest rate changes.
- It’s almost impossible to predict the direction of interest rates 100% of the time, for this reason consider a laddering strategy to stagger the timing of your annuities coming due for renewal. For free multi year guarantee annuity rates click here.
Variable Annuity: Sub Accounts (Mutual Funds) in an Insurance Wrapper
Variable annuities look, feel, and try to perform (excluding fees) similar to mutual funds but they have a few extra insurance features that entice retirees to buy them. The biggest attraction is usually their death and income benefits.
In theory, variable annuity accumulation values perform better than fixed and fixed indexed annuity accumulation values during positive investment years, but they lose value when the underlying sub-accounts perform poorly.
Although variable annuities are supposed to perform the best during big years in the stock market, the cost of the annuity often bogs down their returns.
Potential fees include:
- Mortality and expense
- Death benefit and
- Income benefit
Fees for Variable Annuities can be as low as 1% and we’ve seen them as high as 5.5% per year! In my latest client review, we discovered the following fees:
- M&E 1.65%
- Income Benefit 1.25%
- Sub Account Average 1.00%
Total fees: 3.9% per year
According to Swan Wealth Advisors performance sheets, the S&P500 averaged 6.62% per year since July of 1997. If the variable annuity sub accounts equaled the S&P 500 performance during that time period and you subtracted the 3.9% fee each year, investors would be left with little to no return at all.
Fixed Indexed Annuity: The Hybrid Annuity
The fixed indexed annuity is an annuity that delivers interest on your money based on a specified calculation of an equity, bond, or commodity based index like the S&P 500, Dow, or Gold. Unlike variable annuities, stocks, and bonds, Indexed annuities DO NOT have have negative returns (unless your rider fee exceeds the interest credited). Clients earn either positive or 0% interest. In exchange for this protection the insurance company uses spreads, caps and other features that limit your topside growth potential.
Potential Fees Include:
- Death Benefit
- Lifetime Income Benefit
- Caps (synthetic fee)
- Spreads (synthetic fee)
- Declared rate (synthetic fee)
In theory, fixed indexed annuities offer the safety of a fixed annuity with the potential for performance that rivals variable annuities. Annuities are not an investment. They should be viewed as a savings vehicle and should be compared to:
- Other savings vehicles like CD’s and money markets or
- Income supplements to social security/pension.
An annuity is designed for safety first and performance second and should be used as a compliment to the rest of your retirement portfolio. Annuities should be purchased for the things they CAN do, not the things they MIGHT do.
For more information about your investment options contact:
Jason Soloman, The Investment Professor, Tactical Investment Advisors LLC
Phone: (980) 233-9770
Address: 19825-B #149, N Cove Rd Cornelius, NC 28031
The information in this blog post is not intended as tax, financial, insurance or legal advice. Please consult a licensed professional for specific information regarding each individual situation. This post was developed and produced on a topic that may be of interest to the general public. The opinions expressed, and the material provided are for general information only and should not in any way be considered solicitation.