Why Many Retirees Should Stay Away from Variable Annuities

Some mistakenly believe that variable annuities are an always attractive investment option because they provide guaranteed income for life

The promise of retiring while still receiving a paycheck is an exciting prospect. But while it is true that variable annuities can provide income, they may not be a suitable investment for retirees. It can be tempting to purchase a product that claims to guarantee an income for the rest of your life, but you should understand the ins and outs of investing your hard-earned money into variable annuities.

How an annuity works

An annuity is an insurance contract, sometimes sold to retirement-age individuals. It’s often used in conjunction with other investments as part of a retirement strategy. You purchase an annuity contract, and the company then pays you an agreed amount for a set period of time or for the remainder of your life. By trading in a portion of your retirement assets, you’re promised a guaranteed income.

Taxes are deferred on your earnings until your money is withdrawn.1

What is a variable annuity?

Simply put, with a variable annuity, the insurance company takes your money and invests it into various sub-account mutual funds. The insurance company invests this money and pays you an income. Sounds great, right? Well, maybe not.

There are a few good parts to a variable annuity. If the stock market goes up, your account value could rise, less the fees you’re paying. Also, if you add an income rider, you can turn on a pension for life.  Lastly, if you add a death benefit rider, and die while holding the contract, your heirs generally will get at least your original investment back, less any withdrawals. Just keep in mind that if you ever run out of money in that variable annuity, generally that lump sum death benefit goes away.

There are four predominant reasons why variable annuities are often not a good investment for retirees:

1.  Your principal is at risk

When you give your money to an insurance company for a variable annuity, the money is invested directly into professionally managed mutual fund portfolios, therefore offering greater growth potential. Once invested, it is subject to the highs and lows of the market – meaning you could lose money if that portfolio takes a hit.

Your principal will assume some risk – it is subject to the whims of the market. You can have an income rider or a death rider that is guaranteed, but your original investment is not. It is invested with all the risk that entails.

2.  The fees are high

Most annual fees can be anywhere from 2-4%, and in some cases, they even go as high as 5%.2

Typical fees for variable annuities include:

  • Mortality and Expense Fee (M&E)
  • Mutual Fund Manager Expense
  • Various Optional Income or Death Benefit Riders
  • Administration or Distribution Charge

Sometimes, people are shocked to find out that the insurance company is taking these high fees because they are hidden or just simply not understood.

3.  Surrender charge periods

When you purchase a variable annuity from an insurance company, there is a period of time after you pay the lump sum when you cannot withdraw all of your money. If you choose to withdraw all of those funds, you could be subject to a surrender charge fee.

Surrender charge periods and fees exist to protect the insurance company by giving them time to earn fees on your money.

4.  “Guaranteed income” is misleading

Sometimes, clients believe that their money in a variable annuity it totally safe. This is not true, because your cash is invested in mutual funds.

If you add an income rider you can receive a guaranteed income, and while it is true that you are guaranteed a specified income with this rider, the money you receive as income draws from your own principal. In essence, you are paying the insurance company high annual fees to pay you income out of your own money. When combined with high fees, your withdrawal rate can be too high. And if the market does not perform well, you can run out of principal.

If this happens, the good news is that with an income rider, you are still guaranteed an income for life. However, you will have lost your initial investment. Your cash is gone. You won’t be able to take back your lump sum, and there will be no benefit to your heirs. When you pass away, your income stops and your family won’t receive the guaranteed income. Even with a death benefit rider, there typically won’t be any lump sum available for your family if your principal is gone.

Now that you know the disadvantages of variable annuities, you’ll understand why we don’t recommend them as an investment for retirees. Our goal is to create a well-diversified portfolio and make sure you have a proper retirement plan in place – one that works to safeguard your wealth and make it last for your heirs.

To learn more, come to one of our upcoming dinner workshops at Ruth’s Chris or Abe & Louie’s steakhouse in Boca Raton or Fort Lauderdale. Call 1-800-807-5558 for details or to RSVP.

  1. https://www.investopedia.com/terms/d/deferredannuity.asp
  2. https://www.fidelity.com/viewpoints/retirement/shoppers-guide-to-annuity-fees

Investment advisory services offered only by duly registered individuals through AE Wealth Management, LLC (AEWM). AEWM and Stuart Estate Planning Wealth Advisors have not affiliated companies. Stuart Estate Planning Wealth Advisors is an independent financial services firm that creates retirement strategies using a variety of investment and insurance products. Investing involves risk, including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. Any references to safety and security generally refer to fixed insurance products, never securities or investment products. Insurance and annuity product guarantees are backed by the financial strength and claims-paying ability of the issuing insurance company. 646981

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