Variable Annuity Nonsense
I’ve stated several times the fact that I don’t sell variable annuities but still offered plenty of information and analysis for anyone who likes that type of opportunity. There is certainly a good argument for using variable annuities but mostly it depends on individual preferences. It’s the most commonly sold type of annuity simply for product distribution reasons and I’m positive that most people who buy them haven’t seen any other options. I don’t sell variable annuities because I think there are better contracts, especially when it comes to guaranteed lifetime income.
A Case Study in Annuity Recommendations
Last week I was having my second conversation with a gentleman who is happy to meet with as many people as he can. So he’s seeing a lot of stuff and getting a bunch of different recommendations. Others guys were taking the typical approach by just putting an annuity in front of him, only because he’s retiring and it’s an opportunity to make a sale. Like everyone else I advised him to define some goals before looking at products. So he came back to the second meeting with a goal of wanting $5000 per month retirement income. And, of course he had shared this with one other person who offered an immediate solution.
Understanding Guaranteed Income Costs
I know about how much guaranteed income costs. If you give me the age of all covered annuitants and the time when you want to start income, I can give you a pretty close estimate as to how much it will cost. When he said $5000 I knew it would cost north of $600K, depending on how long payments were deferred. He told me the quoted price was $467K so a red flag popped up and I needed to know more.
Variable Annuities and Projection Realities
It all made sense when he told me it was a variable annuity from Nationwide. VAs have much lower guaranteed income payments because the account is directly attached to the stock market but also come with much more upside potential to the guaranteed income because of the upside potential in the market. This guy was looking at a projection, not a guarantee. The contract quoted $57,000 annual income after four years of deferral. This is where everyone needs to understand a little bit more about how projections are created for variable annuities.
Because the investment is tied directly to the stock market, VAs can legally backdate an illustration for up to 30 years and I believe most contracts give an agent the discretion to choose the illustrated time period within those parameters. Either way it projects income based off the best market returns in history. For that to happen this contract would have to repeat four years in the 90s in order to reach the expected income amount. I burst a lot of bubbles but feel it’s much better to reduce expectations now than to apologize for poor performance later.
The Truth Behind Guaranteed Minimum Income
Fortunately Nationwide is a solid company and has a lot of publicly available information. We were able to look it up on the company website to verify some important things. The first thing I wanted to find is the guaranteed minimum income amount. The $57K was projected based on market returns from the late 90s but that’s not what the company guarantees. Everything was available directly from the company so it didn’t take long to find the minimum guaranteed income was just over $31,000 per year. The projection was nearly double that, which is not surprising because the stock market basically doubled during the first four years of the illustration. Do you think the stock market will double in the next four years?
This guy essentially has to decide whether taking risk to get $57K is worth maybe only receiving $31K per year. That’s what a variable annuity with guaranteed income is supposed to do. You get a direct market investment with a guaranteed income backstop. Some people like the opportunity but it’s not usually something I recommend for those who need the income. A full guarantee is better so I looked it up in the database and found with the same inputs, the highest guaranteed income available is actually over $44,000 per year. It would actually require a fairly robust stock market for the variable annuity to even achieve that so the full guarantee is a pretty dang good deal as well.
Variable Annuity Nonsense or Miscommunication?
Is this variable annuity nonsense? It’s something I’ll never know for sure because I can’t tell how the higher income figure was presented. The potential buyer seemed to think it was guaranteed so there’s a good chance it wasn’t explained properly. As advisors we are actually required to give consumers some options so that is possibly one mistake that was made. But the consumer in this case is going to several advisors to make sure he gets as many opinions as possible so he’s kind of doing that on his own. In either case, make sure to understand all details of a potential contract. You may be missing something important and you sure don’t want to be disappointed because unrealistic numbers didn’t work out.
If you are dealing with something similar feel free to reach out and I’ll help you figure out whether you are seeing something legitimate or complete nonsense.