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Variable vs. Fixed Indexed Annuities: A Fee Analysis

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I’m biased.

Day-in, day-out I consult a number of the top “safe money focused” advisors around the U.S. These are not your wirehouse, hot-stock-tip, Wall Street types. Many of these advisors view safety and contractual guarantees as top priorities, with growth and accumulation second. That said, their target market is an older demographictypically 55-pluslooking for income insurance during their golden years.

Now here’s my beef…

Daily I hear about 55-plus clients who own variable annuities. That’s not the bad part. I believe variable annuities have a viable place in financial planning (evidenced by$41 billion in second quarter sales; up 16 percent from second quarter 2010). My problem is with how these variable annuities are sold. Over 90 percent of variable annuities are sold to clients based on the riders you can attach to the base policy, such as guaranteed withdrawal living benefit riders, death benefit riders, etc. Then the “wrap up” part of the sale is talking about upside potential, if accumulation of the VA is even discussed at all. For example, about 96 percent of Prudential’s record $6.8 billion first-quarter variable annuity sales were policies that included a lifetime income guarantee. At MetLife, 80 percent of its $5.7 billion of products sold in the same quarter carried a guaranteed benefit. That raises my concern. Here’s why:

If variable annuities are being sold rider first, upside secondwouldn’t clients be better served with indexed annuities? Fixed indexed annuities offer higher living benefit rider guarantees (think 7 percent, 8 percent, even up to 8.2 percent compounded growth, longer deferral guarantee periods and higher payout bands appliedall resulting in larger lifetime income checks) than VAs. Granted, the upside in a fixed indexed annuity is less than variable annuities, but shouldn’t we tailor the product and its features to how it’s being sold and what clients are asking for?

If 90 percent of variable annuities are being sold with riders attached, do clients understand how that fee structure affects their gains credited? Back to a couple of the hottest VA sellers in Prudential and MetLife: The annual fee of their lifetime income rider is 1.03 percent. That’s on top of the regular annuity fees, which average 2.51 percent, thus producing a total fee structure averaging 3.54 percent. Add a death benefit rider, return of principal guarantee or more aggressive subaccounts and clients have over a 4 percent annual fee. Do they realize that? I’m betting most don’t and if they did, they’d be pretty ticked off.

Most fixed indexed annuities have an annual income rider fee structure at 0.75 percent to 0.95 percent; one-quarter that of variable annuities. And most have a zero percent fee structure for the base contract.

I’m not stating that fixed indexed annuities are the be-all, end-all for retired investors. But in today’s economy, aren’t a lot of people looking for guaranteed income first, low fees second, growth third? If that’s the case, shouldn’t we match the best product to their situation?

Matt Neuman is a vice president of marketing for Advisors Excel in Topeka, Kan.