Response: Harry Gross: Does it pay to drop annuities?
March 13, 2011 by Sheryl J. Moore
PDF for Setting It Straight with Philadelphia Daily News
ORIGINAL ARTICLE CAN BE FOUND AT: Does it pay to drop annuities?
Dear Mr. Gross,
I am an independent market research analyst who specializes in the indexed annuity and life markets. I have tracked the companies, products, marketing, and sales of these products for over a decade. I used to provide similar services for fixed and variable products, but I believe so strongly in the value proposition of indexed products that I started my own company focusing on IAs and IUL exclusively. I do not endorse any company or financial product, and millions look to us for accurate, unbiased information on the insurance market. In fact, we are the firm that regulators look to, and work with, when needing assistance with these products.
I recently had the occasion to read an advice column that you authored for Philadelphia Daily News, “Does it pay to drop annuities?” I am concerned about a couple of things in both your reader’s letter and your response to him. Because of the misleading and inaccurate statements were made in this piece, I wanted to reach-out to you and offer my services. It scares me to think that your readers may have difficulty obtaining the information they need, when searching for answers on annuities. If the reader who sent you the letter needs additional assistance understanding what he purchased, or if you need help in the future with fact-checking, I humbly offer the services of my market research firm to you.
First, the gentleman who wrote to you inquiring about his annuity purchase has no reason to be concerned about the surrender charges on his annuity if he is not going to withdraw more than 10% of his annuity’s value each year. Almost all deferred annuities (fixed, indexed, or variable) provide annual penalty-free withdrawals of the cash value on the contract. Furthermore, surrender charges on annuities only apply on the amount withdrawn over and above the annual penalty-free withdraw amount. It is important to note this when discussing any annuity contract and remember that annuities are intended to be long-term savings vehicles.
Second, while this gentleman finds the first-year surrender charge of 18% on his annuity to be “astronomical,” he fails to realize that higher surrender charges are required in the early years of annuities that offer premium bonuses, particularly those with bonuses of 10%. The insurance company selling such a product must offset the risk of offering such a lucrative bonus, and provide a disincentive for the purchaser to merely obtain the increase in value from the bonus and cash surrender thereafter. That being said, if someone wants to minimize the surrender charges on their annuity contract, they should purchase an annuity without a bonus.
Third, I believe that the penalty-free withdrawal provision was miscommunicated on your reader’s annuity purchase. It is very rare that an annuity does not allow 10% of the annuity’s value to be withdrawn annually (usually these begin in the second year of the contract). In addition, the reader says that he “could draw 10 percent a year for the rest of our lives starting in the 15th year,” but surrender charges expire on his contract in 15 years. This is an oxymoron. In truth, this means that the purchaser could withdraw 100% of his annuity’s value at the end of the 15-year period, not a mere 10% annually. If he were to go to the section of his annuity contract entitled, “Withdrawal and Surrender Pay-out Provisions,” “Free withdrawal option,” “Surrenders,” or something comparable, he should be able to find additional clarification on some of the liquidity options in the contract that he purchased.
Fourth, in regards to receiving lifetime income through his annuity, your reader can receive annuity payments for the rest of his life. However, taking annual penalty-free withdrawals is not the method that is used to provide this guaranteed lifetime income. The contract can be annuitized and may also have the option of taking payments under a Guaranteed Lifetime Withdrawal Benefit (GLWB) rider; either of these options would guarantee income payments that the gentleman cannot outlive.
Fifth, annuities are “absolutely safe,” particularly fixed and indexed deferred annuities. Based on only the preliminary information provided by this gentleman (that the “interest rate is secondary”), it sounds like either a fixed or indexed annuity would be a suitable purchase based on his needs/and wants for guaranteed lifetime income. However, a thorough suitability review would need to be conducted, in order to appropriately identify what vehicle would make the most suitable purchase for this gentleman.
Sixth, it would be reckless to suggest that this reader should cash surrender his annuity while surrender charges still apply. He has several options for liquidity, not the least of which is the option to annuitize his full account value (not subject to surrender charges), and receiving the guaranteed lifetime income that he is seeking-out. Most insurance companies provide this option by company practice as early as the second year of the contract, if annuitized for a minimum period certain (such as five years).
Seventh, readers should keep in mind that annuities offer many options for liquidity. Specifically, nearly every annuity permits penalty-free withdrawals of 10% of the annuity’s value annually. Some indexed annuities even allow as much as 50% of the annuity’s value to be withdrawn in a single year. Plus, most annuities provide a waiver of the surrender charges, should the annuitant need access to their money in events such as nursing home confinement, terminal illness, disability, and even unemployment. Couple this with the fact that nearly all fixed and indexed annuities pay the full account value to the beneficiary upon death, and it is clear that these are some of the most liquid retirement income products available today. Without reading your reader’s actual contract, to identify which annuity he purchased, I cannot provide specific details on his liquidity options. However, it should be noted that liquidity is available on most annuities through the penalty-free withdrawal provision, surrender charge waivers, Required Minimum Distribution provisions, GLWBs, and death benefits.
Mr. Gross- it is alarming to me that you would suggest that a minimum increase in value of 22% is unsatisfactory. During a period of historical-low interest rates, where certificates of deposit are paying less than half of one percent, and fixed annuities are offering all-time low rates averaging 3.39%, a minimum guaranteed rate of 2.10% is hardly unattractive on an annuity with guaranteed minimum values. This does not even take into consideration what the current interest rate is, or the potential for gains, which could be significantly higher than 2.10%! Today fixed annuities are offering average rates of 3.39% and indexed annuities are available with the potential to earn more than 10% annually. Furthermore, it is inappropriate to deduct surrender charges from the “increase in value,” as the purchaser will not be subject to the surrender charges as long as he doesn’t withdraw more than his penalty-free amount in any given year. Remember- the surrender charge on a fixed, indexed, or variable annuity is a promise by the consumer not to withdraw 100% of their monies prior to the end of the surrender charge period. This allows the insurance company to make an informed decision on which conservative investments to use to make a return on the clients’ premium (i.e. 7-year grade “A” bonds for a seven-year surrender charge annuity or 10-year grade “A” bonds for a ten-year surrender charge annuity). Investing the consumer’s premium payment in appropriate investments allows the insurance company to be able to pay a competitive interest rate to the consumer on their annuity each year. In turn, it also protects the insurance company from a “run on the money” and allows them to maintain their ratings and financial strength. Ultimately, it is disingenuous to publicly comment on the potential for gains in this contract without discussing the current credited rate on the annuity.
I am further distressed that you would advise your reader to cash surrender his annuity and purchase mutual funds in its place. The risk profile of someone purchasing a fixed or indexed annuity is far different than that of someone willing to invest in stocks, bonds, or mutual funds. Fixed and indexed annuity purchasers want protection from market risk where those who invest in the market and other “risk money places” are willing to risk losing 20% for the potential to earn 20%. This is not the risk profile of a fixed or indexed annuity purchaser, who always has their monies protected by a minimum guarantee and is promised to receive their premiums paid plus interest at the end of the contract term. For this reason, it is very inappropriate to suggest that someone who is risk-averse enough to purchase a fixed or indexed annuity to invest in securities such as bonds as an alternative.
Lastly, rising interest rates need not be a concern because annuity purchasers don’t have to fear “locking in” annuity rates when they are low. Such purchasers can ladder their annuities, or purchase fixed indexed annuities which are strategically positioned to take advantage of a low market. An indexed annuity is specifically designed to allow the purchaser to take advantage of the increases in the market, as opposed to simply “locking in at the bottom” The annual reset feature on indexed annuities uses the market’s low-point, as the next index measurement’s starting point. This provides for an awesome opportunity for indexed gains in the event that the market tanks. To put this in context, when the market dropped nearly 50% from 2008 to 2009, indexed annuity owners were protected by zero percent interest. In addition, they were provided a phenomenal opportunity to benefit from the recovery of the market, even though it has taken several years to correct itself. In fact, some purchasers have received double-digit gains on their indexed annuities during this period.
Please consider these facts in the future when you are advising your readers on annuities, Mr. Gross. Now, more than ever, Americans are in need of reliable, credible, and accurate information on retirement income services and products. Providing the Philadelphia Daily News readers with factual information on annuities is not only your responsibility, but also a requirement of maintaining journalistic integrity. If I can assist you in this pursuit now, or in the future, please do not hesitate to contact my firm.
Sheryl J. Moore
President and CEO
(515) 262-2623 office
(515) 313-5799 cell