The past few years have seen the development of much court litigation and disputes in other forums involving variable annuities.
Admittedly, the bulk of these disputes are related to the losses that a number of variable annuity contract owners have sustained as a result of the downturn in the stock market in 2000-2003. Most of these disputes involve allegations that the salesperson made recommendations that were not “suitable” for the needs of the customer.
In a number of such disputes, Norse has served as an expert witness. His role is usually to attempt to help the court, jury or arbitration panel to understand annuities and to assist in establishing that the sale of a variable annuity was, in fact, suitable to the customer’s needs.
Surprisingly, these disputes have involved both immediate and deferred variable annuities, and annuities involving qualified retirement plans as well as nonqualified investments.
These variable annuity disputes often take the form of a dual attack by the complainant about the transaction.
The first complaint is that the variable annuity itself was not suitable because variable annuities have been portrayed as too expensive, too inflexible and unnecessary for proper retirement planning–particularly when the funds involved are derived from a qualified retirement plan.
This is the old complaint that it is inappropriate to put “a shelter within a shelter” that has been in the popular and financial press so prominently in recent years. Even with nonqualified retirement funds, most complainants and their lawyers join the uninformed ranks of the media in failing to understand that a variable annuity is, in fact, insurance against living too long, not merely insurance about dying when the stock market is down.
The second ground for attack is that even if the variable annuity was “suitable” for the needs of the customer, the mix of underlying investments was not. After all, the complainants reason, the contract value went down when the stock market went into the tank; therefore the investments must have been “unsuitable.”
This second complaint inevitably results in the expert witness being asked to render an opinion as to what are the “proper” investments for a retirement portfolio.
It is easy with perfect hindsight to determine what the customer should have bought at the time of the original sale–those investments that did not go down in value. It is considerably more difficult to determine what those investments would have been looking into the future.
However, it is easy and reasonable to utilize commonly accepted investment doctrine in selecting a mix of retirement investments. Obviously, no one can predict which investment will go up and which will go down, but professionals can use methods that tend to level the volatility of investments and thereby minimize the risks.
Planning for retirement at the time when distributions are to begin is different from planning for accumulation of assets for future retirement. The time horizons are different.
In retirement, people do not have the time to recoup huge losses. Moreover, their income needs are immediate.
Unfortunately, the income needs many people have during their retirements exceed the funds they will have available to provide that income. This is a “you can’t get there from here” kind of problem.
Often, when people approaching retirement finally face the hard fact that they do not have sufficient assets to maintain the same lifestyle enjoyed during their working years, they panic and make choices that exacerbate the already insoluble problem. They select inappropriately volatile investments in the hope they can make up the difference between what they have and what they need.
Then, when the volatile investments decrease in value, they blame the salesperson and seek formal dispute resolution in the hope that a court or arbitration panel will make them whole.
So, what are the “proper” types of investments for retirement? As with all investment questions, the answer depends on the people involved, their risk tolerances, their degree of sophistication, the availability of other assets, liquidity needs and the like. At the very least, there are at least three elements that we believe should be considered in any retirement plan. These are shown in the box.
All three elements must also encompass longevity planning. Perhaps the greatest financial problem facing the average American retiree is the increasing longevity we enjoy. To quote Ben Stein, the well-known economist, lawyer and writer, “while it is not good to be poor, it is even worse to be old and poor!”
The bottom line: The proper retirement plan should consider inclusion of a fixed annuity, issued and guaranteed by a strong legal reserve life insurance company; a variable annuity invested in a product that permits a good asset allocation program to be used; and one or more life insurance products to provide liquidity for unforeseen eventualities as well as to pass whatever is left on to the next generation.
The proportions would vary depending on the customer’s circumstances as well as the nature of the asset allocation program in the variable annuity. It is this planning function that calls for the assistance of a retirement professional–an expert who can assist retirees in finding the “proper” investments to meet their particular needs.
True, one size does not fit all, in investments used for retirement as well as in other areas. However, the three-pronged process above provides a good starting point for analysis of those customer needs that may cause variations in the process.
Insofar as handling the suitability litigation and arbitration is concerned, we strongly recommend keeping detailed documentation of a retiree’s decisions. This documentation should include decisions relating to risk tolerance and financial needs as well as choices made with respect to investments that will be used. Otherwise, it is too easy for customers to attempt to apply perfect hindsight and allege that the investment choices were not “suitable” to their retirement needs.
Review These Points
An investment that will provide a fixed, guaranteed return as a hedge against deflation.
An investment that will provide the ability to access capital growth as a hedge against inflation.
An investment that will provide for liquidity for unforeseen eventualities and that can provide legacies to children and other natural objects of the retiree’s bounty. (Caution: Frequently, retirees put undue emphasis on legacy intent. But elder citizens should not live in poverty merely to leave something to their children that could be better used to improve the quality of life in retirement.)