Despite an increasingly well-informed client base, there remains no question of the need for the financial professional who can help customers reach their financial goals.
Case in point: the fixed annuity. It’s long been a popular vehicle to convert lump-sum retirement savings into a guaranteed income stream for life. But with interest rates at an all-time low, is now the time to lock into such low returns for life? Probably not.
Yet lifetime fixed annuities are not the only option for the conservative investor to consider. Fixed annuities can still serve your clients well in this market, and it is your duty to know how. When comparing interest rates, the client should first consider liquidity needs. While a CD may be used for short-term or long-term investing, fixed annuities are primarily a long-term investment designed to provide retirement benefits. These two examples show why.
A better interest rate, with accessible cash
At one 63-year-old client’s annual review, I noticed that he had $25,000 in CDs earning only 0.6% interest. The money wasn’t earmarked for anything in particular, except perhaps travel during his retirement years. Meanwhile, he owned a non-qualified fixed annuity he had bought seven years before with a guaranteed minimum return of 3.5%. As it turns out, additional payments could be made later to the annuity — as I explained to my client — while maintaining the 3.5% rate.
For this client, it made sense to transfer his $25,000 from the CD into his fixed annuity for three important reasons:
- The client’s fixed annuity allowed him to make extra contributions. Note: this is not the case with a single-premium annuity.
- The client would not incur surrender charges should he wish to access the cash at any time. His contract allowed withdrawals without penalty after seven years, and the client had already passed the required withdrawal age of 59½.
- His fixed annuity contract did not have rolling surrender charges, which would have locked up his additional contribution.
This meant that, after the seven-year holding period, he could take the $25,000 out at any time. Meanwhile, he’d earn significantly more than the CD’s interest rate of 0.6%. In cases such as this, it is important to consider the holding period of the CD, as CDs must be held until maturity to avoid penalties.
A client should also be aware that each annuity purchase payment has a specific guaranteed period. The initial purchase payment will receive a specific interest rate, guaranteed for two years. At the issuing company’s discretion, an enhanced interest rate may be paid in the first year on any purchase payment. Any subsequent purchase payments will receive a specified interest rate that is guaranteed for a period of two years. The specified interest rate will be determined at the time of the purchase payment. After the guaranteed period has expired, interest will be credited at a renewal rate and a period determined by the issuing company. The renewal rate will never be less than the minimum allowed by state law at the time the contract is issued. Currently, most renewal rates are guaranteed for one year.
- Annual reviews are a crucial tool when serving your client. In the case of this client, I was able to ascertain that he could earn a better rate and still have easily accessible funds after the required holding period, something he would not have known otherwise. Holding periods and interest rates vary by contract type and issuing company.
- Keep your eyes open for clients with CDs or money market accounts and a fixed annuity. Look into the details of the annuity and check if additional contributions can be made and whether funds can be accessed when needed.
Two buckets, one retirement
In another case, a recently retired 55-year-old client asked that her $500,000 be converted to a guaranteed income stream, ensuring peace of mind. In other words, she wanted a lifetime fixed annuity.
However, I was concerned that if we converted this entire sum into an immediate fixed annuity, she’d be locked in for life to the historically low rates (guaranteed minimum of 1%), with no opportunity for growth. Instead, I suggested we ladder a series of fixed annuities over her lifetime. If there were increases in rates over time, she would benefit.
We then created two buckets. With some of her funds, we purchased a 10-year single premium immediate annuity (SPIA) that gave her the peace of mind she was looking for. The remaining funds went into a financial vehicle with opportunity for growth that was consistent with her risk tolerance. Hopefully, after 10 years, there will be more funds in this bucket than if she had put the money in a fixed annuity at today’s rates.
The takeaway? Fixed annuities don’t always need to be lifetime contracts. Although these products are known for their ability to provide a guaranteed income for life, it’s possible to purchase a fixed term annuity depending on the client’s age and specific goals. In times such as these, when interest rates are at historically low rates, this could be a good way for clients to have guaranteed income for a set number of years and give them the opportunity to benefit from potential rate increases in the future. This is information that many clients will not know — they need an informed advisor to impart it.
Especially in turbulent economic times like these, people close to retirement are looking for peace of mind and guarantees, and it is our job to help them make informed decisions without the noise of emotion. Although some clients may have a fixed idea of what they want, that idea may not be the most suitable choice for their circumstance.
In fact, according to a January 2011 Employee Benefit Research Institute poll, 47% of workers interviewed said they prefer to get suggestions from a professional and then make their own decisions. Just 20% of workers prefer to look into their own investments and make their own decisions.
This means it is your job to carefully review the client’s entire financial situation and goals, keeping an open mind and looking for opportunities and strategies that may not be the most obvious or simple. By offering several options from which clients can choose thoughtfully and wisely, you are giving your customer an ideal scenario — an informed decision with the benefits of a knowledgeable, experienced professional.
Pamela Green, CLU, ChFC, FLMI, is the annuity specialist at Sapient Financial Group, a general agency of Massachusetts Mutual Life Insurance Company (MassMutual). She can be reached at [email protected]. Pamela Green is a registered representative of and offers securities and investment advisory services through MML Investors Services LLC, Member SIPC. One Union Square, Suite 300, 10101 Reunion Place, San Antonio, Texas, 78216, (210) 342-4141.
The guaranteed death benefit and payment of lifetime income are contingent upon the claims-paying ability of the issuing company or companies. Liquidated earnings are subject to ordinary income tax and may be subject to surrender charges. If taken prior to age 59, a 10% federal income tax penalty may apply. Certificates of deposit are insured up to $100,000 per depositor by the Federal Deposit Insurance Corporation (FDIC) or the National Credit Union Association (NCUA).