Put your annuity money where your math is
We all are familiar with the saying put your money where your mouth is, and most of us have used that phrase to flush out someone’s true intentions. Because annuities are agreements between you and the insurance company, the contractual numbers never lie and the annuity math always wins out in the end.
Projected, back tested, potential, hypothetical = not guaranteed
The vast majority of annuities sold are pitched by the agent on how the annuity can possibly grow in conjunction with the markets. Variable annuities along with indexed annuities are the typical market dream products of choice. Real annuity math demands that these dream scenarios be run at zero (or the guaranteed minimum, if offered) so that you know how the real annuity engine works and what you should actually expect from the contract. If you want market growth using mutual funds, then go buy actual mutual funds. You don’t need a variable annuity to do that. If you want real index returns, then go buy a low cost index fund from Vanguard or Fidelity. You don’t need an indexed annuity (with upside limitations no less!) to get real market index growth.
An upfront bonus isn’t free money
I always tell people that buying an annuity for the upfront bonus is like buying a car for the stereo system. In other words, it makes absolutely no sense. Upfront bonuses are a cute way that annuity carriers use to attract middle America to the dream of getting “free money.” The annuity math on upfront bonuses tells a different story because most come with an annual fee for the life of the policy and are usually vested over time as well.
Too many agents love to use the upfront bonus as justification to transfer from one annuity to another to “make up” for surrender charges. That annuity math doesn’t work, and you are only buying the agent a car if you agree to this sales pitch nonsense. In my opinion, if an agent proposes an annuity transfer because of a bonus, you should consider turning them into your State Insurance Department.
You can only have a small bite of cake
The annuity sales industry lives on the dream that you can have your cake and eat it too . The stark mathematical reality is that when you purchase an annuity under this false assumption, you will be lucky to get a bite of cake. The dream of variable annuity growth is contradicted by the average annual fee of 3% for the life of the policy, along with limited investment choices. The current hot annuity of the moment, indexed annuities, were actually designed to compete with CD returns, so an agent selling any version of the market return dream is a form of mathematical financial malpractice.
I always tell people that the contractual realities of any annuity policy will eventually reveal themselves, so why not just start and finish there. The real math of any annuity, especially variable and indexed, is what the policy guarantees. If the policy has a contractual minimum, then that’s the real math. If it doesn’t, then the real math is zero from a potential return standpoint. Always base your buying decision on worst case scenario.
Interest rate dart throw
Because the 10-year Treasury rate is a key component in annuity pricing, the question that no one has an answer to is where rates are going. It’s cavalier and a flat out wishful guess to say that rates will go up in the near future. I don’t think Janet Yellen has a red phone, and if she does, none of us have the number. However, because the majority of customer sentiment believe rates have to rise, I do recommend numerous annuity laddering strategies to address possible rate movement.
Time value of money
When deciding to implement a lifetime income strategy that have payments starting immediately, you have to run the time value of money math calculations to see if it makes sense to wait for rates to rise. Most of you have done this type of calculation when deciding the best time to start receiving Social Security, and annuity math works the same way. So if you took an immediate annuity income stream right now instead of waiting three years from now, then how long would it take to make up for those missed payments even if rates went up? Laddering strategies also work here, but it really comes down to how valuable the money is to you right now.
Will do, not might do
I live by the saying you should own an annuity for what it will do, not what it might do . That pretty much sums up my business model, and I feel that annuities should be owned solely for their contractual guarantees. Will do, not might do is on the back of every Stan The Annuity Man® shirt printed, so I’m definitely drinking the Cool-Aid on this annuity belief. If I was ever in charge of the annuity industry, this would be the motto for sure.
Annuities are contractual math products. When you are deciding whether a transfer of risk annuity strategy makes sense for your specific situation, don’t put faith in anything other than what the policy is promising. Hold your agent accountable to showing you the contractual guarantees only, ask to see a specimen policy, and have them personally sign off on any promises that sound too good to be true.
Remember that the current annuity sales industry goes pretty much unregulated, so let the contractual math do the talking, not the agent.
Originally published 4.15.2014 by MarketWatch.com – http://www.marketwatch.com/story/put-your-annuity-money-where-your-math-is-2014-04-15