Annuity Scams: Can I Earn 7 Percent on an Annuity

Glad you joined me for today's topic because it is a hot one. I might have to throw my hat off, and you have my hat to see the auburn hair because this one gets the juices flowing, as they say. Today’s topic is, can I get a seven percent return on an annuity? I got the question, how do you refer to an Index Annuity as a CD rate when it plays in the market, generally the S&P 500, with 7-10 percent caps and some recently, some with no caps? They have been to the bad chicken dinner seminar, it sounds like someone's trying to sell the sales pitch dream of Index Annuities, and this is when I start pounding the table a little bit.

The History

Now, let's go back a little bit. Index Annuities were designed in 1995 and introduced in 1995 to compete with normal CD rates like the percent rate. I understand that there are people out there pitching, but they are too good to be true. The unicorns chasing the butterflies returned of market upside with principal protection. If that was true, that's all the Fed would buy. When they're talking about 7-10 percent or no caps or something like that, just understand that with all Index Annuities, there's some lever, whether it's a cap, a spread, or a participation rate. I've done a lot of videos on that.

Index annuities or CD-type products are the main protection products; they are not market products or securities. When someone shows you a back-tested number, which is common, unfortunately, and in many states, it's illegal. If you'd have owned it ten years ago, or 15 years ago, or seven years ago, you would have made this, and they show these pie returns in the sky. Be very careful. Can that happen? Occasionally one year out of 10? Maybe, but the blended return of Index Annuities it's just not going to be what you want it to be.

Back-Tested Numbers

So many people out there have heard the bad chicken dinner seminar pitch. You do not buy annuities for back-tested, projected, hypothetical, theoretical unicorns chasing the butterflies’ returns. You own an annuity for what it will do, not what it might do. If you're looking at an Index Annuity, principal protection will do. They will do a CD normal CD type return. Do not buy it from the might do, do not buy it for the hopeful return scenario. If you think you're going to get consistent market returns with an Index Annuity, you're the sucker they're looking for. Don't be that person. Don't believe the dream because you're going to own the contractual realities of the policy.

Another follow-up question: “ Is an indexed annuity’s whole advantage to participate in market gains while eliminating market losses?” Great sales pitch, man. Whoever wrote that and did that, the bad chicken dinner seminar, that's great. Did I miss something? This is very important. Let's take the example of the S&P 500, which is a commonly used index for Index Annuities. The S&P index option on your Index Annuity does not include dividends. Now, why is that important, Stan The Annuity Man? Because dividends within the S&P 500 represent over 50% of the historical returns for Index Annuities. That's a big deal. You're getting a snapshot from contract anniversary date to contract anniversary date.

But let's go deeper. Let's just say the cap is 10 percent. First of all, have you ever seen markets go 10 percent, 10 percent, 10 percent, 10 percent? No, you don't. One year it might be 10 percent, one year it might be seven percent, one year it might be three percent, one year it might be minus 12 percent. If you're looking at a contract with Index Annuities and year after year, it's a one-year call option. Let's just say it's 10 percent that you're uncapped. You get your 10 percent. Let's just say that happens. Then the next year is 20 percent, but the cap is not 10 percent anymore.

They changed it, which, oh, by the way, the annuity companies can change the way things are calculated with caps and spreads and participation rates at their discretion. Let's just say it's 5 percent; the markets go up to 20, you get five. The next two-year market goes to the toilet; you get zero. First-year 10, second-year five, zero, zero, 15 divided by 4. That's your return, which is a normal CD-type return. The one that kills me all the time is there'll be agents out there who will calculate the index every month, and it's going to be up to three percent. Over 12 months, you could get 36 percent. Sounds great—no downside with 36 percent.

Be careful. If it sounds too good to be true, it is every single time.

Agents Calculations

Oh, hold on a second. Here's where the details come in. With those monthly type calculations, unlimited on the downside, they are capped at three on the upside. Think about that; that’s not going to work out. The first month, the market goes up to five percent, you get three, the second month, markets go up three percent, you get three. In the third month, the market goes down 15 minus 15. Annuity companies have big buildings for a reason. I'm not saying Index Annuities are bad products; they’re not great products, great CD-type products, and great principal protection products.

I want to be very clear with people out there that are going to the bad chicken dinner seminar or the big stake seminar or whatever, or the person that they'd been working with all these years, all of a sudden has this Index Annuity, and they're saying words like market upside with no downside, market participation with principal protection. Be careful. If it sounds too good to be true, it is every single time. We primarily use Index Annuities for the attached income writer guarantees future income. If you want to buy Index Annuities as standalone products, just understand that the renewal rate history of the annuity company is very important, meaning they can change the rules on how things are calculated but don't go into the contract thinking you're going to get market returns with principal protection. You're not.

The point I'm trying to make is not to get into math weeds. It's not what you want it to be with Index Annuities, but it's pretty good. I always say with Index Annuities, they're not too good to be true, but they're pretty darn good if you understand them for how they're designed and what they're going to do, which is protect the principle and give you normal CD-type returns.

Never forget to live in reality, not the dream, with annuities and contractual guarantees! You can use our calculators, get all six of my books for free, and most importantly book a call with me so we can discuss what works best for your specific situation.