June / July 2014
KERN BUSINESS JOURNAL
43
Planning for Retirement
Annuities are not always wise investments By Steven Van Metre
T
here’s no such thing as a “free lunch.” There is always a “catch.” But you can’t tell that to one of my clients, who I will call Jim. Jim was recently invited to a “free” seminar dinner, where he was told he would learn about retirement investments. What he received, instead, along with his tasty steak, was a hard-to-swallow annuities sales pitch. The dinner’s host, a financial advisor, promoted the latest “hot hybrid annuity.” The advisor was light on the plan’s details, but he spoke about how this annuity tracked a commodities “bucket,” had a big upfront bonus and would give my client a very high payout. Fortunately Jim did not sign up for the annuity. Instead, he offered me a challenge: Beat this annuity using investments with guaranteed income. I was able Steven Van Metre to come up with three ways to beat the income he was promised at the dinner. But I also carefully reviewed the “hot hybrid annuity” being promoted. I explained to my client that the commodities index tied to the annuity has never made money or credited one penny of interest to a client’s policy, despite the advisor’s claims of high returns. The basis for the advisor’s recommendations was the high commission – about 7 percent – that the advisor would receive. In fact, it would fetch the advisor over $21,000 in
commissions and leave the client with little flexibility. An alternative that the advisor never shared was to use a “single premium immediate annuity,” or SPIA, that would offer Jim a higher income guarantee for less money. With the money he saved, he could get more income by putting it all into the SPIA or by putting the “saved money” into another annuity, where it could grow and be used later in life. Jim wondered why the other agent never mentioned a SPIA. I told him the truth: Most advisors don’t, because
the commissions are 50 percent to 75 percent less than they would be with the “hot hybrid annuity.” Annuities are not for everyone. Generally people with pension plans, or with the ability to assume some investment risks may not find annuities useful. And not all annuities are alike. They mostly fall into two categories – variable and fixed-income annuities. But there are big differences even within these two categories. That is why I tell clients and students in my retirement planning classes to do their homework. They should ask: • How does the annuity work? Some have really long contracts, with payouts decades into the future. Is there a penalty – and how much -- for taking money out early? • What are the fees? It’s a “red flag if the fees associated with an annuity are greater than 4 percent. • What is the insurance company’s rating? Annuities are underwritten by insurance providers. You don’t want to find out a company went out of business just when you should be collecting your money. Review insurers’ ratings before buying an annuity. • How does an annuity fit into your portfolio? An annuity should be part of a diversified investment strategy. It is unwise to tie up all your money in an annuity. It should be considered a supplement to Social Security, tax deferred retirement funds and other investments. Steven Van Metre is a Bakersfield financial planner who specializes in retirement income strategies and teaches a course on retirement planning for the Levan Institute for Lifelong Learning at Bakersfield College.