Avoiding variable annuity landmines

Billions and billions have moved into variable annuities over the last several years. If you have not been part of this shift of assets, you may be one of the few. If you are wondering why so much money has moved into these products, for the most part it is the added features variable annuities provide that cannot be obtained in stocks, bonds, mutual funds, or cash. But, as with all solutions there are products and companies that are bad as well as good. Not every product is the same and someone with extension knowledge in this area should provide guidance.

Before we go any further on variable annuities, let me address two issues that are always raised when ‘variable annuities’ are mentioned. Many individuals steer clear of all annuities because they believe the balance in the contract at their death is lost to the insurance company. This is only true when the contract is annuitized. This means the contract owner entered into an agreement with the insurance company who in return for the contract value promises a specified monthly or annual income for a specified amount of time. The insurance company now has the investment risk, and the contract owner has a guaranteed income stream. But, since it was annuitized, upon the death of the contract holder any remaining value after minimum payments have been met stay with the insurance company. Today, insurance companies are offering guaranteed income without annuitization. Thus the contract holder retains control of any undistributed funds which makes them available to be left to heirs.

The second issue always raised for variable annuities is the cost. When compared to a mutual fund, the variable annuity product always has higher expenses. When analyzing expenses, there are a variety of rules you must apply. First, low expenses do not assure higher returns. Secondly, higher expenses do not equate to a bad product. Variable annuities have higher expenses because they provide features not found in mutual funds, plain and simple.

If your spouse had invested $100,000 last August in both a mutual fund and a variable annuity and unfortunately had passed away this month, the value transferred to the surviving spouse is significantly different from each investment. Had they been invested in equities and experienced similar returns, the variable annuity would still provide the surviving spouse with at least $100,000. While the mutual fund would have transferred the remaining value, and in this market, that could have been significantly less than the initial investment amount. So for a small annual fee, the heirs are protected in the event the contract owner passes away when the value is below its highest historical value. This is just one example of several features that can be added to a variable annuity contract.

In light of the volatility in the investment markets and individuals are retiring earlier and living longer, the need for income that cannot be out lived is very desirable. Many variable annuity contracts offer guaranteed income for life, without annuitization. Thus, you have income that cannot be outlived, retain control of the assets for continued management among various investment selections, and the unused balance goes to the heirs. Clearly a feature not found in the best mutual fund.

As I stated in the beginning, these contracts are not simple and any professional offering them should have extensive knowledge of these products to prevent misuse. Therefore, if variable annuities offer benefits you are seeking or need, then find a qualified professional prior to making a purchase.

Once a variable annuity is purchased with some of the additional features discussed, then care should be taken to avoid any missteps while owning the contract. Just like playing a game of Monopoly, the player with the best knowledge of the rules will always do well, if not win. Not following the rules in the variable annuity contract can cause significant changes to the features or guarantees that were purchased. To inadvertently reduce the guaranteed income or benefit to a spouse due to a withdrawal above a limit or some other type of error would be inexcusable. Thus, each time a new withdrawal is taken or the contract reaches its anniversary, a review with the advisor or the insurance company should take place. This will prevent many mistakes from occurring.

Today, many investors are choosing to sell out of equities for something less volatile. But to invest in products outside of equities when you have ten, twenty, or more years of retirement can clearly raise concerns about living longer than your investments will last. Thus, variable annuities may provide a needed solution to some.

During difficult investment markets, be sure you act with your long-term goals in mind. If you happen to be the patient, the medicine, the doctor, and the hospital all in one, then perhaps it is time to seek outside professional assistance from one of the area CERTIFIED FINANCIAL PLANNERS. Contact our office or one of the other professionals in our area.

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