Many financial planners have often proclaimed annuities a bad deal for their clients, citing high fees, complexity, or restrictions on removing their money among other reasons to keep their clients’ money in stocks or bonds. Harold Evensky, a prominent financial planner based in Coral Gables, Fla., used to be one of those advisors against annuities. This month he has been quoted in Fortune magazine speculating that he might himself annuitize part of his own portfolio. Why? “I come from a long-lived family,” he said.

This article repeats often stated reasons annuities may be right for many clients as part of an overall retirement strategy. While not all of Evensky’s reasons are the same as the ones we as advisors might agree with for our clients, let’s look at some of the basic advantages annuities might have for many of our clients.

How can they protect their assets?

  • Problem: How can your client increase their income without decreasing the safety of their investment?
  • Suitable Solution: We are all familiar with the old saying “Don’t put all your eggs in one basket.” Suitable diversification of assets in an annuity could add to the safety of your client’s portfolio.

Bond losses

  • Problem: They invested in bonds to protect their savings and receive regular interest income. They didn’t realize that when interest rates increase, the value of their bond principal would decrease.
  • Suitable Solution: With a bonus annuity, it may be possible to increase your client’s principal immediately, thus helping them recover losses on their bond portfolio and protecting 100 percent of their future principal.

Locking in stock market gains

  • Problem: Lately, market investments have performed well. They are concerned that the market won’t continue its upward trend forever.
  • Suitable Solution: To offset the effects of inflation, an annuity could offer potentially higher benefits as a result of compound interest.

How can they make sure their money will be available when they need it?

Liquidity:Can I get some of their money out without paying penalties or charges?”

  • Problem: Many financial accounts charge penalties for withdrawals before maturity on the entire account value. But consumers may want to be able to withdraw some money when they need it without paying excessive penalties or losing up to six month’s interest.
  • Suitable Solution: Annuities have many guaranteed flexible withdrawal options that may allow them to take money out of their account without paying any penalties or charges. They could receive free withdrawals that may be tailored to meet their financial situation.

How can they reduce their expenses?

Federal income taxes

  • Problem: Interest income earned on checking accounts, savings accounts, CDs, stock mutual funds, bond mutual funds (except for special tax-free funds), T-bills, and dividends on common stock may all be taxable by the federal government each year when interest is credited…even if they don’t take it out!
  • Suitable Solution: Interest income credited to their annuity is not currently taxable by the federal government. They may not pay taxes on their annuity interest income until they take it out of their annuity, but usually at lower income tax rates.

Investment effects on Social Security benefits

  • Problem: Interest income earned and credited on most investments such as mutual funds, savings accounts, CDs, bonds, etc. may be reportable as income, which may increase their income tax on Social Security.
  • Suitable Solution: Interest income earned and credited on an annuity usually is not subject to either federal or state income taxes until taken out of the annuities. Such interest income is tax-sheltered and authorized by the Internal Revenue Code. When they finally take their money out of their annuity, depending upon the income option they choose, up to 85 percent of their monthly income may not be subject to any income taxes. Thus, fewer taxes will be paid and more of their Social Security income benefits could come through to them.

Charges & fees

Problem: Many financial investments and financial accounts charge administrative, sales or investment fees as a percentage of total assets. Often state premium taxes are passed on to your client.

Suitable Solution: Subject to distribution requirements, most annuities have:

  • No sales charges,
  • No monthly administrative fees
  • No state premium taxes passed on to your prospect, and
  • No investment fees

How can they increase their income?

  • Problem: Their interest income, after paying income taxes, is not enough to meet the increasing costs of living. They need to increase their monthly interest income without adding any investment risk.
  • Suitable Solution: With an annuity, it is possible to increase their after-tax income for either more monthly income right now – or more monthly income starting at some later date they pick – and lasting for their lifetime and beyond. With an annuity, there may be no market risk. Their money is safe, so they can count on the return of 100 percent of their money, in addition to a return on their money.

Transfer costs

  • Problem: You client understands he or she may be able to increase their current income or the tax-deferred growth of their assets by transferring some of their CDs, mutual funds, money markets, stocks, etc. into annuities, but they do not want to incur the transfer cost involved in such transaction.
  • Suitable Solution: With some suitable annuities, it may be possible to increase their principal immediately, which will help recover transfer costs.

How can they guarantee their monthly income and their principal?

Guaranteed retirement income

Problem: They want three guarantees for their retirement income:

  1. Their monthly income checks must stay the same every month – never decreasing when interest rates decline.
  2. Their monthly income checks must keep coming to them for their entire life – no matter how long they live.
  3. Many investments they have looked at – or have their money in – may not give them these two financial guarantees.

Suitable Solution: Annuity guarantees

  • Their monthly income checks can be the same every month. Their income will never decrease just because interest rates go down.
  • Their monthly income checks will be there forever. With a life income option, their money will never run out. And if they die early, their annuity will continue the same monthly income checks to whomever they name for the balance of a minimum guaranteed period, which they predetermine.

Safety of principal

  • Problem: Many investments do not guarantee that their principal will never be less than their original investment.
  • Suitable Solution: Unlike other financial products, suitable annuities can guarantee that their principal will never be exposed to market risk.
  • Their policy values don’t have to go down because of market fluctuations – they may only go up as their guaranteed interest is credited each month, until they take their income payout.

How can they make sure their heirs will be protected in case of their premature death?

  • Problem: Probate administrative costs and fees can average 8 percent to 10 percent of assets. Their assets are not available to their heirs until their estate is approved by probate court if they don’t have a will. Average time many assets remain tied up in probate court can be one to two years. Without a will, all records of their assets are available to the general public. The court, in absence of a will, transfers their money to those family members as directed by law.
  • Suitable Solutions: A suitable annuity, with a properly designated beneficiary other than their estate, can bypass probate and eliminate all probate administrative costs, fees, delay and publicity. Therefore, at their death, more of their money can go to those family members they choose. A suitable life insurance policy bypasses probate and delivers tax-free insurance.

Annuities are not right for all clients and are not the only answer for most clients. However, the reason Mr. Evensky has for his change of heart may also be the reason an annuity could be right for your client. Retirees are being squeezed by low interest rates, volatile markets and increased life expectancy. The prospect of running out of money is terrifying even for good savers. So what checklist can we use to address the issues our clients could be facing?

  • Defer paying federal and state income taxes on your client’s interest income.
  • Avoid the costs and delays of probate.
  • Increase your client’s after-tax interest income.
  • Keep more of your client’s Social Security income after taxes.
  • Make sure your client’s money, at their death, will go to those family members they choose, not those the probate court chooses.

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