Case Study – Annuity A Vs Annuity B

Now that we have established the Ground Rules and discussed the Decision Tools for Annuity Analysis, let’s put those tools to good use and examine two annuity products that are popular in today’s market. 

 

We’ll simply call these Annuity A and Annuity B. I assure you, these are actual products that are being sold by the thousands. To re-cap, the critical provisions to make an annuity decision are:

Surrender Schedule,

Free withdrawals,

Interest Rates, including

 
Guaranteed minimum rates,
 
Current Rate
 
Renewal Rate
 
Yield to Surrender

Premium Bonus Rates.

Corporate Credit

There is a lot of contrast on these issues in the annuities I have chosen for this example. Tale of the Tape:

 

Annuity A

Annuity B

Bonus

10%

0%

Current Rate

3.75%

5.60%

Minimum Guarantee

1.50%

6.25%

Surrender Period

10 years

7 Years

Principal Amount

100,000

100,000

Agent Commission

9%

3%

Free Withdrawal

5%

10%

The differences between these annuities jump out when laid side by side. We’ll discuss each one…

Annuity A The premium bonus for Annuity A is quite attractive and is most likely it’s big selling point. The obvious downside is that you must wait an extra three years for the surrender schedule to expire. You also contend with limited liquidity thru a smaller free withdrawal. Take a look too at Annuity A’s cost of placement- this is the total cost to the insurance company to sell this annuity. Between the premium bonus and the agent commission, the company is down 19% before it even gets started!!! What’s the conclusion?? The company will make up for those costs by holding on to your money for ten years, offering you very little liquidity and guaranteeing a pretty low minimum rate. It may be one of the only annuity choices your agent shows you, however, because the commission is juicy.

Annuity B- Annuity B on the other hand, has only 3% lost to placement costs. Because of the lower expenses, you get a more solid guaranteed rate, shorter surrender schedule and more liquidity via free withdrawals. Conclusion? Annuity B gets no love because of its low commission, but its high guaranteed rate indicates that management is confident in their long-term ability to deliver on their promises. So what annuity is best for you? To determine that, let’s put Annuity A and Annuity B in a spreadsheet to see how the long-term performance looks for each product. These Spreadsheets are available on our Downloads Page

Below, you will see each annuity’s yield to surrender based on both current and guaranteed rates, the surrender value in each year and the ending account value. Just so you know, Annuity B’s surrender schedule will expire in year seven but I went ahead and illustrated the returns over ten years in order to keep things as even as possible.

 Annuity A5% annual free withdrawal

End Of

Current Rate

Guaranteed Rate

Surrender Charge

Surrender Value

Year 1

$113,750

$113,750

10%

$102,375.0

Year 2

$118,016

$115,456

9%

$107,394.22

Year 3

$122,441

$117,188

9%

$111,421.50

Year 4

$127,033

$118,946

8%

$116,870.14

Year 5

$131,796

$120,730

7%

$122,570.73

Year 6

$136,739

$122,541

6%

$128,534.52

Year 7

$141,867

$124,379

5%

$134,773.23

Year 8

$147,187

$126,245

4%

$141,299.09

Year 9

$152,706

$128,139

3%

$148,124.87

Year 10

$158,433

$130,061

2%

$155,263.88

Yield to Surrender

4.71%

2.66%

  

A Link to the Excel Spreadsheet that calculates this table is available on our Downloads Page

 

Annuity B

10% annual free withdrawal

End Of

Current

Guarantee

Surrender Charge

Surrender Value

Year 1

$105,600

$105,600

7%

$98,208

Year 2

$111,514

$112,200

6%

$104,823

Year 3

$117,758

$119,213

5%

$111,870

Year 4

$124,353

$126,663

4%

$119,379

Year 5

$131,317

$134,580

3%

$127,377

Year 6

$138,670

$142,991

2%

$135,897

Year 7

$146,436

$151,928

1%

$144,971

Year 8

$154,636

$161,423

 

$154,636

Year 9

$163,296

$171,512

 

$163,296

Year 10

$172,440

$182,232

 

$172,440

Yield to Surrender

5.60%

6.18%

  

Okay, what differences do you notice?

The end result? Annuity B looks boring and pays a lower commission, but offers a higher yield to surrender and higher account value than Annuity A.
The premium bonus that entices annuity buyers is often offered in conjunction with high commission. Premium bonuses should not be a deciding factor in an annuity buying decision unless to break a tie between two equal offerings. But it’s important to see how they are used.
In deciding, you must consider only your best interests. The high commission, high bonus, but shortsighted approach used to sell Annuity A costs you freedom, liquidity and profitability. Your money is locked up with a smaller free withdrawal and bound by a high surrender charge. You can’t get your money back, and your appreciation rate on it is pretty small. Even still, the agent made a hefty commission.
  

Action Items:

The end result? Annuity B looks boring and pays a lower commission, but offers a higher yield to surrender and higher account value than Annuity A.
The premium bonus that entices annuity buyers is often offered in conjunction with high commission. Premium bonuses should not be a deciding factor in an annuity buying decision unless to break a tie between two equal offerings. But it’s important to see how they are used.
In deciding, you must consider only your best interests. The high commission, high bonus, but shortsighted approach used to sell Annuity A costs you freedom, liquidity and profitability. Your money is locked up with a smaller free withdrawal and bound by a high surrender charge. You can’t get your money back, and your appreciation rate on it is pretty small. Even still, the agent made a hefty commission.
  

That’s not the kind of analysis most advisors will give you.

1 reply
  1. Ron Pugh
    Ron Pugh says:

    Thank for your adroit analysis of annuities. Finally, a decision making tool that is designed for those who are trying to make prudent financial decisions regarding retirement.

    Ron Pugh
    DeFuniak Springs, Florida

    Reply

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