Annuity sales topped $229 Billion in 2014 and 2015 could be higher. Demand for annuities continues to grow as American are looking to annuities to quell their fears and provide solutions:
- Protection from market losses and keeping what you have
- as Bond alternatives (due to the threat of rising interest rates and low bond yields)
- Risk of outliving your money
Here are two critical things to know about annuities that could save you thousands in the long run as well as annuity landmines to avoid:
Annuities have an “Account Value” and “Income Value”. Knowing the difference is crucial!
The “Account Value” is the walk away value. Just like a CD matures in a certain period of time, the annuity will have a time frame, say 8-12 years. At the end of the time frame you can take all your money and go or leave it where it is and draw out money as needed. Principal is guaranteed against market losses but growth is not guaranteed. The interest earned is based on the performance of various market indexes (More on Market Indexes later). These are used for accumulation, market protection and bond alternatives while still maintaining flexibility down the road.
The “Income Value” grows at a guaranteed rate by adding an “Income Rider”. Rates are currently as high as 7%. You cannot walk away with this money. The growth and guarantee is only available by taking a lifetime income payout. The only purpose of the income value is to create a pension like income stream.
So each annuity will have an Account Value and Income Value. Since this income value has the most curb appeal: It’s easy to talk about 7% guaranteed. The features of the actual account value often get overlooked or ignored. On indexed annuities, many of the account values have low caps and very little growth potential. On variable annuities the account values can suffer big market losses and have fees north of 3% per year.
But why does it matter if you are buying it for income and you have a 7% guarantee?
If you hear this from an advisor this is a “Red Flag”. First, if your account value is getting eaten up by fees and losses it will drop to zero over time once you start taking income. The higher the fees and losses and the lower the growth potential of the account value the faster this will happen. You may have a guarantee but if your die early or change your mind and want your money back from the insurance company you could lose big. It is not just principal you could lose, but think about parking your money with an insurance company for 20 years and never earning one dime of interest. When you get into the math as I do, this is a real possibility for many of the annuities on the market today.
I use annuities in planning every day and they can solve problems and provide peace of mind when set up properly.
A good combo annuity will have:
- Real growth potential – no caps on growth
- Low cost – fees 1.5% or less
- No market risk – principal guaranteed
- Flexibility – the ability to walk away with your money or take lifetime income
In the next email I’ll discuss how the money grows in annuities. What you can look for and what to avoid.
It is always good to get a second look at what you are doing.
Contact me to set up a free consultation at 480-970-5663 or contact me through LinkedIn – Denver Nowicz.