Have Annuity Products Improved?

Q: Mr. Voudrie,

Enjoyed your article re. Equity-Indexed annuities ( April 06). I am doing some research and am still very much uncertain of the value of the equity indexed annuity. My background is... financial (CPA) but have had no experience with annuities so am playing catchup and basically have not developed a sufficient understanding of the product to be comfortable with any of it. I hope you have time to briefly respond to my questions listed below.

Some brief facts on our situation.

My wife and I have been retired for about a year and 1/2 and are both 62 years old. I have always been in the stock market with a propensity to be more in stocks than fixed and have done reasonably well. I use a full service broker with UBS and do pay my fair share of fees (1 to 1.5% typically). We currently have a portfolio of about $1M (approx. 700k in IRA's and 300 in after tax moneys), a paid for vacation home (value about $375k), a primary residence with a value of $365 with a $290k mortgage and a rental property we currently are selling that should clear about $200k which we will use to pay down the debt on our home.

I have been very comfortable with my broker and my investment base but Jan (my wife) is much more nervous about the market reminding me every time it dips. As we are looking for a way to be more secure in our retirement, we attended a seminar on annuities and have come away with more questions than answers even after two meetings with these sales reps.

They basically are touting the elimination of almost all risk combined with the ability to obtain earnings close to stock market returns. They stress (a) The ability to be able to tie the Annuity to a stretch IRA, (b) Nursing home protection - the annuity would not be subject to spend down in the case of one of us going into a nursing home, and (c)Most importantly of course, the protection provided against the vagaries of the market (ie a 30-40 % drop in one year that could have a devistating impact on retirement funding).

My specific questions are:

1.If a contract has a floor of 3% - and the S&P goes negative - Does the guarantee typically apply to each year individually or does the floor apply to an average of 3% over the term of the contract such as 10 year. So a good return in some years would eliminate the loss of the year before making the guarantee much less valuable. Your article seems to indicate that.

2.Do you feel a mix of annuities and the market make sense.(From your article it certainly would appear not)

3.What about protection against spend down before the state kicks in for nursing home coverage. (We do have long term care insurance for 3years each or 6yrs for one so this is not a major selling point for me but still a valid point.

4.Do you still believe that the Equity indexed Annuity is as bad as your article or have the products improved?

A: Thanks for your questions. Feel free to give me a call and we can discuss further if you like.

I do not like equity indexed annuities, nor do I see a need for variable annuities. The main reason is that there can be a big difference between how they are sold and how they actually work. And, often, the agents don’t know enough to determine how their annuity compares to those offered by others. So, to liken it to a mutual fund, you aren’t being sold the best mutual fund, you’re often being sold the only mutual fund they offer.

More importantly, would you buy a mutual based solely on it’s objective? Of course not. You would want to look at it’s actual performance to see how the manager has done in the past and if that objective was followed and achieved. This is easy to do with a mutual fund because they are required to report their performance in a standardized manner.

There’s no way to do that with any EIA because they are not required to report actual performance. So you are only going on a hypothetical. You’re only going by how they say it will work. They could be lying through the teeth and there’s nothing you could do about it. Have you gotten a copy of an actual contract, read every word, carefully parsed each statement and fully understand it? Probably not, because they won’t even provide a copy of the contract until AFTER you buy. What’s up with that?

Besides, they can change the internal calculations each year (within limits) and you have no recourse.

There’s little chance that you will get near market returns… you lose 2% right off the bat on the S&P 500 because the EIA doesn’t include dividends.

Here’s the simple analogy that I use that you will easily understand. Let’s say you were going to buy another rental and there was someone interested in partnering with you. The terms were that you would have to put up 100% of the money and the partner would handle all the day to day management. You would share the return, except the partner got to control how much you got each year and to change how that amount was calculated from year to year. If you decided you wanted out of the contract prior to the 10 year period, you would face enormous surrender penalties.

That doesn’t make much sense does it?

Feel free to give me a call.

Your posted comments on this and other questions are welcome.
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