Objective information about financial planning, investments, and retirement plans

Is Fear the Ultimate Financial Sales Tool?


If you are like me you may have noticed a preponderance of TV and radio ads where fear is used to pitch various financial products.  If seems that these are overwhelmingly from providers of products such as annuities, insurance or other commissioned financial and investment products.   Recently I heard commercial for a variation of the insurance product called Be Your Own Banker.  Their pitch was the inevitability of a 50% loss in the stock market.  Really, come on.

Fear Is the Mindkiller

My personal pet peeve is that far too often these fear mongers seem to target seniors afraid of losing their nest eggs.

Should fear be a financial motivator? 

Ameriprise has been running a commercial asking folks if they would outlive their money in retirement.  A valid question and one in part based upon fear.

In fact many folks in their 50s or 60s looking for financial planning help as they approach retirement are asking this question.  Whether it’s fear-based or born out of a desire to be prepared it is a good lead-in to the financial planning process for folks in this age range.

On the other hand scaring people, especially seniors, into purchasing a financial product that may or may not be right for them strikes me as sleazy.

In a prior post on this blog, 5 Steps to a Lousy Retirement, I listed making financial decisions based on emotions as one of the steps to take on the road to a lousy retirement.  This especially true when you are being sold annuities or insurance products because so many of them come with onerous surrender charges meaning that it will cost you dearly to move your money elsewhere over the first 5-10 years of ownership.

Planning should precede the sale of financial products 

The logic, other than the desire to earn a sales commission, of pitching a financial product instead of a financial plan to a client escapes me.  In my world a financial planning strategy generally comes first, the implementation of that strategy including the use of appropriate financial products comes afterwards.

Inflation vs. investment loss 

Many of these fear-based product pitches cropped up in the wake of the financial crisis of 2008-09 and the corresponding drop in the stock market.

In my opinion, however, retirees should fear the impact of inflation on their purchasing power vs. losing money in the stock market.  Even a relatively benign 3% inflation rate will cut your purchasing power in half over a 24 year period.

Yes the stock market was hammered in 2008 and if you use the SD&P 500 as a benchmark the market gained very little during the decade 2000-2009.  However a diversified portfolio did reasonably well even during this “lost decade.”

Ask questions and do your homework  

Many successful financial sales types are very personable individuals.  In some cases the sales person might be your neighbor, a member of your church, or a fellow member of the local Rotary club.  This shouldn’t disqualify them as an advisor, however you should also be prepared to scrutinize their credentials and the products they may be trying to sell you with the same tough standards that you would hopefully apply to a stranger in the same situation.

As an example, with the Be Your Own Banker (or any of its variations) sales pitch that I mentioned at the outset, you need to dig very deep before writing a check for this type of insurance policy.  I went to the site and found much of the presentation confusing and found little or no information about the associated policy costs and expenses.

Whether an insurance policy, an annuity, or commissioned investment products you need to ask many, many questions of the agent/registered rep.

  • At the very least understand ALL associated fees, expenses, and restrictions on moving your money.
  • How does this individual get paid?
  • With an insurance related product how solid is the company behind the policy or annuity contract?  

Fear must be a very effective tool in selling financial products, otherwise we would not see so many fear-based product pitches.  Don’t fall for this type of sales pitch.  The only financial products that you should consider are those that are right for your situation, not those that you are scared into buying.

Please contact me at 847-506-9827 for a complimentary 30-minute consultation to discuss  all of your investing and financial planning questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services. 

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Annuities On Trial! Is Your Annuity Guilty or Not Guilty?


You have to love financial services marketers.  The title of this blog post is actually the headline on an invitation that I recently received to a dinner session on annuities.  You can’t make this stuff up.  While this seminar invitation may be a bit cheesy, it does raise some valid questions about annuities.  In that vein here are some thoughts about annuities and about financial dinner seminars.

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Financial dinner seminars 

Financial dinner seminars are a traditional method for investment advisors, estate planning attorneys and insurance and annuity sales types to get their message out to a group of potential clients.  Common sense tells us that these seminars are costly to stage and that the advisors sponsoring them are looking for a return on their investment.  In terms of this annuity seminar or any type of financial or estate planning dinner seminar consider the following before you decide to attend:

  • The ultimate objective of the seminar is to get you to buy something.
  • Ask yourself if this is really the best route to finding a financial advisor.
  • Can you resist the pressure, direct or implied, that will be put upon you to meet with the individual(s) sponsoring the session and do business with them?

In terms of this annuity seminar in particular, I called the company sponsoring the session and pretended I had some questions before deciding whether or not to attend.  The pleasant young woman on the phone indicated that the organization was “holistic” in their approach to working with clients.  They could sell you another annuity if appropriate, manage your money, or consult on matters such as Social Security.

While this all sounds nice, the individual sponsoring the annuity seminar runs a marketing organization and was once affiliated with Tarkenton Financial a financial marketing organization run by Hall of Fame quarterback Fran Tarkenton.  In a Motley Fool piece The “Criminals” Who Sell Annuities, the author quotes Tarkenton as saying:

“There are 38,000,000 Seniors in America. Do they know who you are? Seniors know and trust an American Classic, NFL Hall of Fame Quarterback Fran Tarkenton. If you are a professional in the insurance industry focused on the Retirement and Senior Market, Tarkenton Financial can help you build your business.” 

The Motley Fool piece goes on to say “Nowhere in these ads will you find anything even vaguely along the lines of “we’ll help you help your clients achieve their financial goals.” Because, for some of these people, it’s more about building their own net worth’s, not their clients’. 

This leads me to believe that there will be a lot of direct and indirect selling at this annuity dinner session and very little about helping the attendees to achieve their financial and retirement goals.  At least the venue is a restaurant with excellent food.

Considerations before buying any annuity 

You might get the impression that I am anti-annuity.  You would be wrong.  I have nothing against annuities, only the way that they are often sold and with many of the annuity products that are pushed by insurance agents and registered reps.   Here are some things you should consider before buying any annuity product:

  • Make sure you understand all of the expenses, fees, and charges involved with the product.  I’ve seen variable annuities with annual ongoing expenses well in excess of 2%.  To say this is outrageous and obscene would be kind.  Suffice it to say expenses like this are eating away at the amount that will be available to you when it comes time to annuitize the product or to take partial distributions.
  • If a fixed annuity is paying a much higher rate of interest than other similar products ask yourself why.   Is the insurance company taking excessive risk?  Will they be able to sustain the returns needed to maintain the payments?  Is this a “teaser” bonus rate that drops down to more normal levels after a period of time?  The old adage “… if it sounds too good…” applies here.
  • Who is behind the annuity?  How strong is the insurance company?  If something happens to the insurer it falls to the appropriate state department of insurance to cover you.  There are generally limits on the amount guaranteed for annuities so you will want to read the contract and make sure you understand this all of this.
  • Many annuities contain surrender charges that impose some stiff fees if you try to get out of the contract during the first few years.  Again make sure you are aware of these fees.
  • Equity Index Annuities are often sold by capitalizing on the fears of seniors and others in the wake of a down market.  Typically the returns of these annuities are based on some percentage of an index like the S&P 500, with some minimum guaranteed return and/or floor on the amount that the investor can lose.  Again these products often carry steep surrender charges and they must be pretty lucrative for those selling them judging from the comments I received when I wrote Indexed Annuities-Da Coach Likes Them Should You?  Don’t take my word for it; check out this SEC investor bulletin.

Don’t fall for annuity sales pitches.  An annuity may be appropriate for you but the only way to really know this is by getting a financial plan in place for yourself and your family.

For more information check out:

Please contact me at 847-506-9827 for a complimentary 30-minute consultation to discuss all of your financial planning and investing questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services. 

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Is a Variable Annuity Right for You?


Souvenir Programme, inside cover I’m asked this question from time to time.  The most recent incident was by a friend whose “financial guy” was pushing her to invest a substantial portion of her investable assets into a variable annuity that was “coincidently” offered by his employer.  This friend asked me a simple but thought provoking question:   What type of person is a variable annuity a good product for?   Let’s analyze this question.

What is a Variable Annuity? 

Investopedia defines a variable annuity as follows:  “An insurance contract in which, at the end of the accumulation stage, the insurance company guarantees a minimum payment. The remaining income payments can vary depending on the performance of the managed portfolio.”  Money invested in a VA grows tax-deferred just like a Roth IRA (note VAs are often the vehicle used in 403(b) plans and can be used in an IRA, but for purposes of this article we are only discussing after-tax, non-qualified accounts).  At some point in the future the money can be withdrawn either in a stream of payments (annuitized) over a variety of time frames with varying payouts for a survivor if applicable, withdrawn all at once, or in partial withdrawals over time.    Generally the amount contributed is not subject to taxes, the gains are subject to taxes at ordinary income rates.

Who should consider a Variable Annuity? 

I generally counsel most people to fully fund their company retirement plan such as a 401(k) first, their next priority should generally be funding an IRA (traditional, Roth, or after-tax).  This prioritization is general and certainly one size does not fit all. For example a variable annuity might be more attractive to someone who is looking for an investment vehicle where gains can grow tax-deferred and whose 401(k) plan is lousy.  4 Signs of a Lousy 401(k) Plan include:

  • A plan investment menu loaded with proprietary funds offered by the plan provider.
  • A fund line-up consisting solely of funds from a single fund family.
  • A line-up consisting of funds with high expense ratios.
  • A plan that is wrapped in an insurance company group annuity plan.

Additionally if your plan doesn’t offer a match in addition to having one or more of the above characteristics a variable annuity might be attractive to you. A variable annuity can serve as an additional leg on your retirement planning stool.  For example you might have a 401(k) plan, an IRA, taxable investments, Social Security, and possibly a pension.  A variable annuity can offer another vehicle for tax-deferred investment growth.

Expenses are a key factor 

As an insurance product all variable annuities have an insurance cost as well as the expense ratio of underlying investment sub-account.  The cost of two otherwise similar variable annuity products can vary widely. For example the annuity this friend asked me to review carried expenses that were in excess of 2% all-in for most of the sub-accounts.  This notation on the Vanguard site illustrates the wide variations in VA costs: “* Source: Morningstar, Inc., as of December 2012. The Vanguard Variable Annuity has an average expense ratio of 0.58%, versus the annuity industry average of 2.28%; excludes fees for optional riders. Actual expense ratios for the Vanguard Variable Annuity range from 0.46% to 0.79%, depending on the investment allocation. The expense ratio includes an administrative fee of 0.10% and a mortality and expense risk fee of 0.195%. The expense ratio excludes additional fees that would apply if the Return of Premium Death Benefit rider or Guaranteed Lifetime Withdrawal Benefit rider is elected. In addition, contracts with balances under $25,000 are subject to a $25 annual maintenance fee.”  Additionally many VAs offer additional riders or contract features such as the Return of Premium Death Benefit Rider mentioned above.  In all cases you should evaluate the cost of any riders and the benefit you would derive and then relate this to your unique situation when evaluating a given VA product. The VA that I was asked to review also had a surrender period.  What this means is that for a period of time (either 10 or 7 years in this case) you will be charged a penalty if you surrender the contract (in English this means withdraw your money).  While the insurance company might argue that this is needed to provide them with stability or some other mumbo jumbo, the fact is that you would be charged a hefty (especially in the early years of the contract) fee even if you found a better variable annuity and wanted to move your money to that product.  The surrender charge declines over the life of the surrender period and you can withdraw a small portion of your money without penalty each year.  I strongly urge you to find a VA (such as Vanguard’s or several others) with no surrender charges.

Investment choices 

Most VAs utilize sub-accounts that look like mutual funds, but aren’t.  For example the sub-account might have a name like the XYZ Annuity Fidelity Contra sub-account.  While the sub-account might invest in shares of the Fidelity mutual fund with the same name, or might even be managed by Contra’s manager this is not the Fidelity Contra fund.  If for no other reason than the higher annuity expenses, the returns will be different (and generally worse). Just like any investment vehicle the quality of the investment options and their expenses should be a key factor in evaluating a given variable annuity and even whether to invest in a VA at all.

Is a variable annuity the right choice for you? 

As with much in the realm of financial planning and investing, the answer is “it depends.”  In addition to what we’ve discussed above, ask yourself these questions:

  • What does a variable annuity do for me that I can’t accomplish with investments outside of a VA?
  • Will I annuitize the contract or take periodic withdraws?
  • Do I already have enough annuitized retirement income from Social Security and a pension?
  • Do the benefits of the VA I’m considering outweigh the expenses?
  • Why is my “financial guy” really pushing this VA?
  • How sound is the insurance company behind the product?  Do I understand what happens and who I might turn to if the insurer encounters financial difficulties?
  • VA gains are generally taxed as ordinary income, how does this fit with your retirement tax strategy?
  • VAs can trigger some estate planning issues, make sure that you understand these and are prepared to plan accordingly.  These include both tax-related issues and the fact that any money that is annuitized becomes unavailable to pass on to your heirs upon your death.

A variable annuity can be an appropriate tool in your retirement planning toolkit.  Just make sure that you understand what you are looking to buy, why you would be buying it, and ALL of the underlying expenses involved.

Do you already own an annuity or are you trying to understand what a given stream of annuity payments might be worth compared to a lump-sum?  Check out the annuity calculator at the end of this post.

Please contact me at 847-506-9827 for a free 30-minute consultation to discuss all of your investing and financial planning questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services.   

Please check out our Resources page for some additional links that might be beneficial to you.

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Call the Safe Money Guy: My Road Sign Epiphany

English: Beware of warthogs road sign near Wat...

On a recent drive on the Tollway through the far South end of Chicago near the Indiana state line all of a sudden there it was the solution to all of the financial planning issues that I help clients deal with.  There was my financial epiphany, a road sign urging drivers to “Call the Safe Money Guy.”

Call me cynical, but I generally want to check to make sure my wallet is still in my pocket when I see a sales gimmick on the order of “The Safe Money Guy” advertised.

Sadly I was moving too fast to get the name of the firm so I am forced to dig into my vivid imagination to offer my thoughts on this and similar financial services marketing approaches.

Using 2008-2009 market drop as a sales tool 

I think the whole idea of using fear-mongering as an annuity sales tactic is reprehensible, which is what I’m guessing this guy is doing.  The pitch often goes something like this:

Fed up with the volatility in the stock market?  Tired of the guys on Wall Street making all of the money?  Invest for peace of mind and protect your principal.  Call us. 

So what’s wrong with this?  Far too often the annuity or insurance product being sold carries high ongoing expenses, onerous surrender fees, and returns that often don’t look all that great when you “peel back the onion” and take a hard look at the underlying product.  This pitch is common for Equity Index Annuities, a product that prompted even FINRA to post a warning page on its site.

Leading with a product vs. a plan 

My real beef with this approach and similar ones is that they lead with the sale of financial products instead of a financial plan.   How can anyone recommend any financial product to a client without first understanding in great detail the client’s goals, risk tolerance, and their overall financial situation?

Safe from what? 

Many investors would equate safety with having little or no chance of losing money on their investments.  That’s certainly one definition.  Let me offer a few other “safety” features you might find in some of the products sold in this fashion:

  • Safety from low cost investment vehicles.
  • Safety from the returns that might be needed to achieve your longer-term financial goals.  Over the years I have stressed the point to those planning for their retirement that the biggest single risk they face is from the ravages of inflation eroding the purchasing power of their hest-egg.  I’m not advocating that folks take more investment risk than is appropriate for them, I am advocating that they balance the need for growth to stay ahead of inflation against the bunker mentality being sold by some fear-monger financial sales types.
  • Safety from product transparency.  Anyone who has ever read an annuity or insurance contract can attest to this.
  • Safety from advisor compensation that is clearly defined and based only on financial advice provided.

Look I’m not against either life insurance or annuities.  They can both have a place in a well-constructed financial plan.   There are many folks who sell annuity and insurance products who are diligent and who do a great job for their clients.  Sadly there are others who use what I consider to be some questionable sales tactics.

The recent PBS Frontline documentary The Retirement Gamble served to highlight the high fees that are rampant in some retirement plans.  The same diligence needs to be applied by retirement savers and all investors outside of their company retirement plans.

If working with a financial advisor is right for you, choose a financial advisor who puts your interests first, who understands your needs, and who can recommend financial strategies and products to implement those strategies that are right for you, not those that put the most money in their pockets.

Please feel free to contact me with your retirement planning and investing questions.   Check out our Financial Planning and Investment Advice for Individuals page for more information about our services.    

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5 Steps to a Lousy Retirement

English: Emotions Q-sort

I’ve written a number of posts on this site about saving for retirement.  This time let’s turn it around and discuss 5 steps to a lousy retirement.

Invest in stocks at the top of the market 

This tip is timely as major stock market indexes are at all-time highs.  In fact one company, John Hancock recently ran a TV ad encouraging investors who had been on the sidelines during the current market rally to get in now.  The commercial depicted upscale couples sitting in their financial advisor’s office with a sense of optimism about the markets and feeling like this is the right time to invest.  Don’t get me wrong, I have no idea where the stock market is going from here, but four years into a major Bull Market is not the time to be thinking about just getting back into stocks.  A better approach is to have a financial plan that includes an appropriate investment allocation for your situation through the market’s ups and downs.

Invest in high cost broker sold mutual funds 

Whether proprietary mutual funds offered by your broker or registered rep’s employer or mutual funds with expensive loads, these funds are generally bad choices for most investors.  While no financial advisor works for free, unless there is some overriding reason to the contrary it is generally a good idea to avoid these mutual funds.  Rather look for a fee-only financial advisor who sells their advice and expertise and isn’t dependent upon commissions and trailers from the sale of financial products.  This type of structure lends itself to utilizing low cost index funds and actively managed funds across the whole universe of fund families.

Make financial decisions based upon your emotions 

It is said that fear and greed are the two most potent forces that drive the stock market.  Many financial products, especially many annuities (including Equity Index Annuities) are sold by fear mongering sales types with retirees and Baby Boomers as their prime targets.  An annuity might be the right answer for you, but don’t write a check until you review all the details of this or any financial product.  Don’t buy into the doom and gloom scenarios pitched by many financial sales types, especially right after a market decline such as the one we experienced in 2008-09.  Make financial decisions with a clear head, not out of fear, greed, or any other emotion.

Don’t take full advantage of your workplace retirement plan 

Why contribute to a 401(k) plan, 403(b), 457, or similar retirement plan offered by your employer?  It’s much more fun to spend the money on things you want now such as clothes, a new car, that vacation you deserve, etc.  Besides, didn’t 401(k) plans let investors down in 2008-09?  The reality is that your employer sponsored retirement plan is one of the best retirement savings vehicles going.  Even a lousy 401(k) plan is generally worth funding at least enough to receive your employer’s full match if one is offered.  Over the course of my years as a financial planner I can tell you that I have many clients who have accumulated (or are in the process of accumulating) significant sums in their retirement plan accounts that will play a key role in their retirement.

Don’t plan for retirement, just wing it 

Why spend money on a financial plan?  Retirement will just happen and I’ll be ready.  Things have always worked out for me.  The reality is that retirement is a financial journey, both accumulating enough for a comfortable retirement and managing your money during retirement.  While you might win the lottery or inherit a princely sum from some long lost relative, the reality is that a successful retirement takes planning.

As the legendary golfer Gary Player once said, “… the more I practice, the luckier I get…”  The same applies to preparing financially for retirement.  Planning, preparation, saving early and regularly, and your good common sense are all key elements in engineering a successful and comfortable retirement.

Please feel free to contact me with your retirement planning questions.  Check out our Financial Planning and Investment Advice for Individuals page for more information about our services.    

Please check out our Resources page for links to some additional tools and services that might be beneficial to you.

This article was selected for the 404th edition of the Carnival of Personal Finance hosted by financial coach Adam Hagerman.

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Investing Seminars – Should You Attend?


Today an invitation to an investment seminar came in the mail.  It said that the investment firm “… Cordially Invites You to Attend an EXCLUSIVE Dinner Gathering!”  Wow, me invited to anything that was exclusive?  The only brokerage sponsored investment “seminar” that I have ever attended featured legendary market guru Joseph Granville who among other things played the piano in his boxer shorts.

Opening the invitation, it was from a well-known brokerage firm.  The topic of the seminar is “Strategies for helping build a stronger portfolio.”  Among the areas to be covered are:

  • Outlook for Domestic/International Stock & Bond Markets
  • Focus on distributions:  strategies for managing your retirement income
  • Developing a systematic process to help GET and STAY on the right financial track
  • Strategies to help take advantage of upside market potential while planning for a possible downside

So far this all sounds great.  Reading on I noticed that while the session is sponsored by two advisors from the firm, the featured speakers were from a mutual fund company that offers funds that are often sold by commissioned reps and the other speaker was from an insurance company who is big in the world of annuities.

Should you attend? 

Clearly the brokers are ultimately out to sell financial products, this is reinforced by the choice of speakers.  That said there might be some good information available, the topics are certainly timely especially for Baby Boomers and retirees.

If you feel that you can resist a sales pitch, why not attend, again keep an open mind.  In the case of this session, the restaurant is a pretty good one that is close to my home.

On the other hand, what are you hoping to gain from attending?  These advisors are likely spending a fair amount of money on this session and expect a return on their investment.  There will be a good deal of sales pressure at the very least to schedule a follow-up session with them.

Think about your real objective 

If you want a good meal and perhaps a little bit of knowledge, why not attend?

On the other hand if you are serious about finding a financial advisor to guide you to and perhaps through retirement perhaps you should forego the meal and try to find someone who is a good fit for you.  Those of you who read this blog regularly know that I am a fee-only advisor, I strongly urge that you seek a fee-only advisor who sells only their knowledge and advice.   NAPFA (a professional organization for fee-only advisors of which I am a member) has published this excellent guide to finding a financial advisor.

A free meal is great, but in the end as they say, “… there are no free lunches…”

Please feel free to contact me with your financial planning questions.  Check out our Financial Planning and Investment Advice for Individuals page for more information about our services.  

Please check out our Resources page for links to some additional tools and services that might be beneficial to you.

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Friday Finance Links January 18, 2013


Football season ended with a thud last week, the Packers defense laid a major egg. I hope they get the D fixed by next season.   On a more exciting note, our son will be singing the national anthem prior to the Northern Illinois basketball game tomorrow night.

Here is some great weekend financial reading.  

Personal Finance Blogs  

Miranda shares 8 Places to Research Your Potential House Before You Buy a Home at Free From Broke.

Kevin outlines 2013 Health Care Reform – Changes You Need to Know at Cash Money Life.

Carrie shares The Ultimate Lost of Tools and Resources for Successful Online Entrepreneurs at Careful Cents.

Joe tells us How to start contributing to a Roth IRA at Retire by 40. 

Posts from Fellow NAPFA Members  

Rick Epple shares 7 Steps To Financial Independence For The Small Business Owner at Figuide.com.

Claire Emory tells us that Retiring Abroad Requires Retirement Planning at Figuide.com.  

Other financial articles from around the web  

Josh Charlson explains that Diversification Pays Off for Target-Date Funds  at morningstar.com.

Jonathan Burton suggests 5 money moves to cushion a bond-market meltdown  at marketwatch.com.

Scott Holsopple tells us How to Pick the Right Annuity (If One Is Right for You) at usnews.com.

In case you missed it here is my latest post for the US News Smarter Investor Blog Why Financial Planning Matters. 

Here’s wishing everyone a great weekend.

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Annuities: The Wonder Drug for Your Retirement?


Annuities: The Wonder Drug for Your Retirement?

Annuities are often touted as the “cure” for all that ails your retirement.  Baby Boomers and retirees are the prime target market for the annuity sales types. You’ve undoubtedly heard many of these pitches in person or as advertisements. Many of these pitches pander to the fear that many investors feel after the last stock market decline.  After all, what’s not to like about guaranteed income?

What is an annuity?

I’ll let the Securities and Exchange Commission (SEC) explain this in a quote from their website:

“An annuity is a contract between you and an insurance company that is designed to meet retirement and other long-range goals, under which you make a lump-sum payment or series of payments. In return, the insurer agrees to make periodic payments to you beginning immediately or at some future date.

Annuities typically offer tax-deferred growth of earnings and may include a death benefit that will pay your beneficiary a specified minimum amount, such as your total purchase payments. While tax is deferred on earnings growth, when withdrawals are taken from the annuity, gains are taxed at ordinary income rates, and not capital gains rates. If you withdraw your money early from an annuity, you may pay substantial surrender charges to the insurance company, as well as tax penalties.

There are generally three types of annuities — fixed, indexed, and variable. In a fixed annuity, the insurance company agrees to pay you no less than a specified rate of interest during the time that your account is growing. The insurance company also agrees that the periodic payments will be a specified amount per dollar in your account. These periodic payments may last for a definite period, such as 20 years, or an indefinite period, such as your lifetime or the lifetime of you and your spouse.

In an indexed annuity, the insurance company credits you with a return that is based on changes in an index, such as the S&P 500 Composite Stock Price Index. Indexed annuity contracts also provide that the contract value will be no less than a specified minimum, regardless of index performance.

In a variable annuity, you can choose to invest your purchase payments from among a range of different investment options, typically mutual funds. The rate of return on your purchase payments, and the amount of the periodic payments you eventually receive, will vary depending on the performance of the investment options you have selected.

Variable annuities are securities regulated by the SEC. An indexed annuity may or may not be a security; however, most indexed annuities are not registered with the SEC. Fixed annuities are not securities and are not regulated by the SEC. You can learn more about variable annuities by reading our publication, Variable Annuities: What You Should Know.


What’s good about annuities?

 In an uncertain world, an annuity can offer a degree of certainty to retirees in terms of receiving a fixed stream of payments over their lifetime or some other specified period of time.  Once you annuitize there’s no guesswork about how much you will be receiving, assuming that the insurance company behind the product stays healthy.

Watch out for high and/or hidden fees 

The biggest beef that I and many other financial advisors have about annuities are the fees, which are often hidden or least difficult to find.  Many annuity products carry fees that are pretty darn high, others are much more reasonable.

There are typically several layers of fees in an annuity:

Fees connected with the underlying investments.   In a variable annuity there are fees connected with the underlying sub-account (accounts that resemble mutual funds) similar to the expense ratio of a mutual fund.  In a fixed annuity the underlying fees are typically the difference between the net interest rate you will receive vs. the gross interest rate earned.  In the case of an indexed annuity product the fees are just plain murky.

Mortality and expense charges are fees charged by the insurance company to cover their costs for guaranteeing a stream of income to you.  While I get this and understand it, the wide variation in these and other fees across the universe of annuity contracts makes me shake my head.

Surrender charges are fees that are designed to keep you from withdrawing your funds for a period of time.  From my point of view these charges are heinous whether in an annuity, a mutual fund, or anyplace else.  If you are considering an annuity and the product has a surrender charge, avoid it.  I’m not advocating withdrawing money early from an annuity, but surrender charges also restrict you from exchanging a high cost annuity into one with a lower fee structure.  Essentially these fees serve to insure that the agent or rep who sold you the high fee annuity (and the insurance company) continues to benefit by placing handcuffs on you in terms of sticking with the policy.

Who’s really guaranteeing your annuity? 

When you purchase an annuity, your stream of payments is guaranteed by the “full faith and credit” of the underlying insurance company.  This differs from a pension that is annuitized and which is backed by the PBGC, a governmental entity up to certain limits.

Outside of the most notable failure, Executive Life in the early 90s, there have not been a high number of insurance company failures.  In the case of Executive Life, 1,000s of annuity recipients were impacted in the form of greatly reduced annuity payments which in many cases permanently impacted the quality of their retirement.

Insurance companies are regulated at the state level; state insurance departments are generally the backstop in the event of an insurance company failure.  In such an event, you may receive some portion of the payment amount that you expected, but likely there will some period of time that elapses before this occurs.

The point is not to scare anyone off of buying an annuity but rather to remind you to perform your own due diligence on the underlying insurance company.

Should you buy an annuity? 

Annuities are not a bad product as long as you understand what they can and cannot do for you.  Like anything else you need to shop for the right annuity.  For example, an insurance agent or registered rep is not going to show you a product from someone like Vanguard that has ultra low fees and no surrender charges because they receive no commissions.  Yet as a fee-only advisor, I generally use annuities from providers of this sort when an annuity is appropriate.

An annuity can offer diversification in your retirement income stream.  Perhaps you have investments in taxable and tax-deferred accounts from which you will withdraw money to fund your retirement.  Add Social Security to the mix which provides a government-funded stream of payments.  A commercial annuity can also be of value as part of your retirement income stream, again as long as you shop for the appropriate product.

Far too many annuities are sold rather than bought by Baby Boomers and others.  Be a smart consumer and understand what you are buying, why a particular annuity product (and the insurance company) are right for you, and the benefits that you expect to receive from the annuity.  Properly used, an annuity can be a valuable component of your financial plan.  Be sure to read ALL of the fine print and that you understand ALL of the terms, conditions, and restrictions before writing a check.

Do you already own an annuity or are you trying to understand what a given stream of annuity payments might be worth compared to a lump-sum?  Check out the annuity calculator at the end of this post.

Please contact me at 847-506-9827 for a free 30-minute consultation to discuss all of your investing and financial planning questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services.   

Please check out our Resources page for some additional links that might be beneficial to you.

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