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Challenging and Exposing Conventional Income Planning: How to Create More Income and Conduct Better Planning With Annuities

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If you’re in the financial services business and meeting and speaking to people about some form of financial planning, you get to have conversations and witness myriad planning perspectives that have been put into place. One planning strategy that we repeatedly see is when an advisor takes a client from the accumulation phase and then to the distribution phase, where income is distributed at retirement in a range of 3 to 5 percent of the portfolio value.

With this planning method, it’s essential to protect the principal value from going down – something that is obviously tied to the income one receives in any given year. Because this type of planning – which keeps clients positioned and dependent on risk – has dominated the income planning landscape, in this last recession, many people who are now in their 60s and 70s lost huge amounts of money they planned to use as retirement income. Those already in retirement saw their incomes slashed by 40 percent because the planning to which they subscribed did not protect the money they were planning on using for income. These people have experienced a depression – not a recession.

When your clients subscribe to income planning that keeps them a slave to principal protection, the planning has really come to a halt. What more is there to do but find various places for their money to accomplish this goal and keep track of fees, commissions, and costs along the way? The problem is that we are in a very low-interest rate environment, and finding a guaranteed 3 to 5 percent return can be difficult and potentially expensive, and will most likely keep clients positioned in risk.

Is this a bad way to go? Absolutely not – if the income that your client plans to receive is removed from this part of the portfolio. Knowing the risks, it is astonishing that there are not more formal income plans established around immediate and deferred annuity planning. Consider the following scenario.

Not slaves to principal planning strategies

As of this writing, the 10-year government bond pays 3.38 percent. That means that, to guarantee a $33,800 income for a 65-year-old male isn’t taxable, he would have to commit $1 million without flexibility to withdraw the par value of the bond for a 10-year period.

With an immediate annuity, $500,000 can produce an annual, lifetime guaranteed income of $39,264 under any market conditions; if the money going into the annuity doesn’t come from a pension, 401(k), or IRA, you can get an exclusion ratio that also guarantees fewer taxes paid on income from the annuity for 12 to 14 years.

If the client wanted to guarantee a return of principal within a 10-year period of time to a beneficiary if he were to die prematurely, his annual income would be $37,800. If he wanted to increase his income by 3 percent a year to keep pace with inflation, his annual income would start at $34,000 and increase annually by 3 percent. These income annuities that build in guarantees and wealth transfer possibilities return more income on a smaller principal investment than income stripping from an entire portfolio.

How to conduct income planning

The most effective way to do income planning is by integrating guaranteed annuity-type planning with active investment management. Under this last scenario, $500,000 would go into an annuity and $500,000 would stay with the money manager to grow without the pressure of having to worry about income for perhaps a 20-year period of time. People hire a money manager to obtain better investment results than if they were doing it themselves – so you would expect the money manager to deliver results within a benchmark. Even if a money manager obtained a 4 percent compounded return, the client’s $500,000 would be $1 million in 18 years; at 6 percent, it would be $1 million in 13 years; and at 8 percent, it would take nine years. This can be a much more credible way to distribute income while rationally growing the portfolio.

There are many variations on annuity planning, all of which can offer tremendous leverage to income planning strategies. Our challenge as annuity income planners is to re-educate the public at large, which has been trained to distrust insurance people and which has little concrete understanding of what our products can do for them. The irony is that Social Security is the largest annuity, in which everyone participates, and we have to make those connections to gain trust and for people to perceive our services as having tremendous value. This one simple annuity strategy example could have saved hundreds of billions of dollars of lost income wealth for many thousands of people. Using your income money in a high-risk environment is like investing with Bernie Madoff and believing you will someday have income. There is definitely a better way.

Barry Goldwater is a Boston-area advanced planning insurance broker in the Boston area who helps clients of CPAs, money managers, and financial planners with income planning and asset protection using annuity and insurance solution planning. He can be reached at [email protected].


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