The question was: I have a new client, age 58, who owns 5 deferred fixed annuities, non-qualified, purchased in different years. Some have small account values. The client wants to consolidate several or all, for the sake of simplicity, but doesn’t want to lose money in the process. What are some points to cover with him before consolidating?
The answer is: Consolidation for the sake of simplicity is rarely a good motivation for a client who owns annuities. Aside from the consideration that diversity in savings and investments is usually a good thing, there are a number of practical considerations a client should explore before deciding to consolidate.
In order to make an informed decision, the client should ask himself, as well as a financial advisor, a number of important questions:
1. What is the return the client is currently earning on each of the annuities?
Insurance companies typically send annual statements which not only disclose the annual return for each year, but also provide an updated current account value as well as the value if the annuity is surrendered. If the return being earned is competitive compared to other savings plans available, what is the advantage of moving the funds? Annuities, unlike brokerage accounts, do not typically have maintenance fees which can reduce the account value or actual rate of return each year. If the annuity has an uncompetitive rate of return in comparison with other safe money alternatives available, there are even more questions to be asked.
2. Assuming the rate of return is not competitive, what is the cost of surrendering the annuity or exchanging it for a new annuity?
Section 1035 of the tax code allows tax free exchanges of annuities without triggering a taxable event (or tax penalty for the client under age 59 1/2 ). However, if there are surrender penalties under the existing annuity, they are still applied when the funds are transferred. Annuities, being long term savings vehicles, typically have penalties for surrender or early withdrawals during the first five to ten years, depending on the annuity policy. If the annuity in question is beyond the penalty period and is a low performer from a return standpoint, the client might be wise to decide to move the money to a new annuity. If the return is competitive, the client might be wise to keep it.
3. Before making any such decision, a client should ask himself when do I need the money?
At age 58, most people are looking at the retirement horizon and are concerned about whether or not they will have enough retirement savings to provide an adequate income and lifestyle. If a client plans to retire soon and needs access to the money, it may not make sense to exchange it for a new annuity with surrender penalties for five to ten years. If the client has other income or retirement savings he can use, it might make sense. Discussing that with a good financial advisor will help you to answer the question.
4. Perhaps the client does not ever plan to use the funds and wants to pass it on to heirs?
In that case, it is important to know what the death benefit is. Most annuities today pay the full account value on death, but some annuities pay the surrender value, and this could also be a consideration for exchanging the annuity for a new one. Most annuities also provide liquidity for various contingencies–10% penalty free withdrawals each year, waiver of surrender penalties for disability, nursing home confinement, loss of job etc., which can protect the client for unforeseen changes in circumstances.
These are just a few of the important considerations which should be explored before deciding. There are others that also need to be examined.
The answer to the question of whether or not your client should consolidate the annuities is not an easy one to answer until you answer a lot of other questions. There may be good reasons to consolidate one or more of the annuity plans. But there may be good reasons not to do that.
The client should talk to his financial advisor in detail before deciding. However, consolidation for simplicity sake is never a good idea.