Annuities
“I hate annuities,” says Ken Fisher of Fisher Investments in full page ads in local as well as major newspapers. You can Google this quote and see his reasons for not liking them and they all are worth reading. What he doesn’t tell you that might affect his opinion about annuities is that his thriving investment firm receives its income from advisory fees. His firm is very successful, so I am not criticizing him except that he says little about the feature that annuities have to guarantee income for your lifetime. Annuities can do this, and for some portion of your funds, for individuals with the right set of circumstances, it may be inappropriate to ignore a guarantee of lifetime income.
For simplicity’s sake I am limiting my comments here to fixed annuities which Fisher says are “ok.” Fixed annuities are an agreement between you and an insurance company to pay you, and perhaps your spouse or partner, an income for life. In the plain vanilla form of an annuity you give your money to an insurance company and they owe you payments for life. At the end of your life or lives, there is no money left for your heirs, and during your life you lose control of the funds you may have had in other investments. Fixed annuities are long-term investment vehicles designed for retirement purposes. Gains from tax-deferred investments are taxable as ordinary income upon withdrawal. Guarantees are based on the claims paying ability of the issuing company. Withdrawals made prior to age 59 ½ are subject to a 10% IRS penalty tax and surrender charges may apply. So why would someone give up this control and a potential legacy for their heirs?
From our experience as financial advisers, the most common reason one would give up this control and legacy potential is that feel they cannot get enough income from conventional investments and they may run out of money during retirement. The possibility of increased income with a fixed annuity only works for older people where their life expectancy means an insurance company will not have to pay you a very long time. They also will not pay you any significant investment return during the payment throughout your lifetime currently, but because you are getting your principal back every month, you are getting a higher payment than you would with interest and dividends alone being used from most conventional stocks and bonds.
For example, if you wanted to put one third of your $1,000.000 retirement nest egg into a fixed annuity, for a man aged 65, your $333,333 payment would get you $1,861 per month, which works out to be 6.7% annually of your purchase payment. This also implies that if you live longer than 15 years, you will be receiving more than your deposit in benefits, and less than that if you die before then. (This income estimate is from an online CNN annuity calculator.)
Whether or not an annuity would improve your retirement income prospects relates to your individual resources, needs, and desire for a legacy, not upon whether or not you like or hate annuities. If you want assistance in creating a retirement income plan that might use more than one type of income tool, contact an advisor who develops individually designed recommendations rather than touting one retirement income tool as the only one you should use. We don’t hate annuities and we don’t think they are for everyone.
For comments or questions on the blog above, contact brandon.smith@lpl.com