Index annuities are different from the index universal life insurance discussed previously on this site. While both involve mixing investing and insurance, a straightforward index annuity (and trust me when I say few of these are ever straightforward) neither provides, nor charges for, a death benefit. As “Stan the Annuity Man” who writes for Marketwatch, likes to say, “The upside to an indexed annuity is that there is no downside. The downside to an indexed annuity is that there is very limited upside.” You need to understand that you will not get “stock-like” returns out of this thing. It really isn't a way to avoid the stock market and yet still have your money grow at a reasonable rate. Stan's best guess of the returns you should expect out of these things is in the range of 3-5% a year, or about what you would get out of a whole life policy held until death. A recent study showed that estimate was about right, with FIAs in the study averaging 3.3% per year for the 5 years from 2007-2012.
One Client's Experience
Financial advisor (and comedian) Michael Zhuang recently analyzed 6 of these that one of his clients had purchased between 2006 and 2010. He calculated the actual (non-annualized) returns and this is what he came up with:
| Purchase Date | Equity Index Annuity | S&P 500 Index Fund Total Return |
| Total Return | ||
| 7/25/2005 | 16.2% | 90.2% |
| 3/28/2006 | 18.8% | 78.1% |
| 5/15/2007 | 11.8% | 49.90% |
| 9/26/2007 | 15.90% | 48.8% |
| 5/12/2009 | 8.9% | 138.9% |
| 6/4/2010 | -9.2% | 92.7% |
Mr. Zhuang then made these four observations about his data:
- All equity index annuity contracts lag the S&P 500 index fund by a HUGE margin!
- I have no idea why the 2010 contract has a negative total return. Aren't equity index annuities guaranteed to not lose money? I guess it all depends on the fine print.
- You can see that the two 2007 contracts were bought at just the right time, directly before the market crashed. Even those, the total returns are abysmal compared to the index.
- The 2009 contract was bought at the bottom of the market, and it has not risen much even though the S&P 500 index has more than doubled itself. Aren't these contracts supposed to rise with the market?
Larry Swedroe's Thoughts
Larry Swedroe, in his excellent and highly recommended book, The Only Guide To Alternative Investments You'll Ever Need, divided up twenty alternative investments into the “Good, the Bad, the Flawed, and the Ugly.” Equity-indexed annuities were put squarely into the Ugly category, along with such terrible investments as leveraged mutual funds (you know the 2X Bull and 2X Bear funds.) He and his co-author, Jared Kizer, list the following 12 issues with index annuities:
- Participation rates are often less than 100% (if the participation rate is 80%, and the index goes up 10%, you only get 8%)
- Annual caps – If the return is capped at 12%, then in a year the index goes up 30%, you only get 12%
- Dividends are ignored- If the S&P 500 Index fund returns 10%, and 2% of that is dividend, the annuity ignores the dividend portion of the return and you're only credited with 8% (at most).
- Margin Fees (aka spread or administrative fee) – If there is a spread of 3%, and the index gained 9%, you are only credited with 6% (at most)
- Use simple instead of compound interest – You want your returns based on what the value of your annuity was at the beginning of the year, not when you bought it 5 years ago.
- Commissions average 8.5% – What more needs to be said. Where do you suppose the money comes from to pay that commission? In general, the higher the commission, the worse the investment.
- Strange guarantees- Sometimes the “guaranteed 3% credit rate” only applies to 90% of the investment, instead of 100%
- Early surrender charges- Swedroe notes he has seen these as high as 22%.
- Lost earnings with early withdrawal – If you withdraw early, you lose up to a year's worth of returns.
- 10% penalty- If withdrawn prior to age 59 1/2, all earnings are subject to a 10% penalty.
- Tax-inefficient- All withdrawals are taxed at ordinary tax rates, not the lower capital gain rates. There is also no step-up in basis.
Are all these downsides present in every index annuity? Of course not. Are some better than others? Absolutely.
The Best Annuity
Immediateannuities.com lists what it feels are the best index annuities out there. The top of the list at the time I wrote this post was from Midland National, the Select Series 14 Annuity. Here are its characteristics:
It guarantees a minimum of 2.75% per year and has a cap rate of 6.5% per year. Surrender fees last for 14 years and start at 9%.
That's apparently as good as it gets. Hard to get excited about that. If you get out of it early, you're going to lose money. If you hold on to it for a long time, you're looking at 3-5% on average, about what Stan the Annuity Man says. By comparison, the long-term annualized return of the Vanguard 500 Fund is over 11%. The difference between your money compounding at 11% and 4% is astronomical. ($50K per year for 30 years comes out to $11M vs 2.9M.) And remember, this is THE BEST one.
The Argument For A Fixed Index Annuity
I took a look at a paper in the Journal of Financial Planning which looked at a selected (but not randomly selected as you'll see below) group of index annuities and modestly concluded that some index annuities can outperform both a 100% stock portfolio and a 50/50 stock/bond portfolio over certain periods. Here is a figure from the paper:
The periods of time when the blue and yellow annuities are higher than the red and green annuities are the 5 year periods when the annuities outperformed. The upside of this paper is that it is the only one that has actually looked at real FIA performance, rather than extrapolating it into the past. The downside is that that period of time is very short, and characterized by two massive bear markets. It's nice to have real historical information, but it still isn't enough data (nor, as you'll soon see, unbiased data) to draw any kind of reasonable conclusion from. Here's another chart from the paper, which would lead a casual observer to conclude that maybe these FIAs aren't too bad.
It's hard to know where to begin here. First, they didn't include the dividends for the S&P 500 index. Add on about 2% a year to all those index fund returns.
Second, they say the least costly index mutual funds have an ER of 20 basis points. Except the TSP, which has ERs of 2 basis points, and the Vanguard 500 Admiral shares (5 basis points) and the Fidelity Spartan Funds (10 basis points) and the Schwab Index Funds (6 basis points) and the IShares ETFs (7 basis points.) In fact, it turns out you have to be stuck in a pretty bad 401(k) to have to pay more than 20 basis points for a broad based US index fund.
Third, they suggest trading costs and tracking error should somehow be throw in here. Yet somehow, someway, all those index funds seem to be able to not only minimize that to a basis point or two if anything, but to underperform their index by less than their ER each year. (Vanguard's TSM shows an annualized return of 8.49% for the fund, and 8.49% for the index for the last 10 years.)
Fourth, admittedly it is hard to estimate taxes since everyone's tax situation is so different. But I think it would at least be worthwhile to point out that when you pull money out of an annuity, not only do the gains come out first, but they are also taxed at your ordinary marginal tax rate rather than the lower capital gains rates most long term investments would receive.
Fifth, as near as I can tell, they've ignored all the surrender fees. If we're only going to look at 5 years of data at a time, let's subtract out what the surrender fees would be at the end of those five years.
Sixth, the disclaimer on this is hilarious. I can't do it justice without simply reprinting it:
There are several limitations with the data in Table 1. The main one is that they are derived from carriers that chose to participate and that chose the products for which they reported returns. This could have imparted some bias in returns, and may differ from what a larger, more random sample would have produced for the periods.
Could have imparted some bias in returns? Ya think? Hey, insurance companies, send us whatever you like that makes you look good and we'll publish a paper on it. Hardly a scientific method. It's nice to see some examples of what is possible, but data is not the plural of anecdote. If you really want to dive into the details of these products, I'd suggest reading a bunch of the papers listed as references for that paper.
Who Else Doesn't Like FIAs?
The Wall Street Journal (google “Fixed Index Annuities Merit Caution” if the link doesn't work) says this about FIAs:
Fixed-indexed-annuity sales totaled a record $33.9 billion last year….Some buyers have been lured by the stock-market rally, which has sent the S&P 500 up 16% this year. Low interest rates, meanwhile, have cut the appeal of traditional annuities.
The rap on indexed annuities is that consumers could overestimate the upside. While the stock-market link is part of the pitch, the product is more like a juiced-up bank CD. Insurers back the contracts mostly with bonds, and use options on market indexes to boost returns. Many contracts sold recently capped the annual upside at about 4% to 5%, according to advisers.
Moreover, insurers have been criticized for allegedly misleading sales practices. California, Minnesota and other states reached settlements in the mid-2000s with market leader Allianz SE and others over concerns the insurers hadn't made clear to buyers that charges would apply to withdrawals even a decade after purchase.
Clark Howard says this:
For years, I have warned people about something known as index annuities. They're one of the hottest products in the investment and insurance landscape, but they're poison for your pocketbook…Of all the things you could [buy]…buying an index annuity at any age is just about the worst thought possible.
Money magazine recently ran a long-form feature about all the problems that have befallen those people who are sold these things. The story also dug into why index annuities are pushed so hard to the great detriment of buyers. The simple reason is a massive commission goes to the insurance salesperson who sells it!
Kiplinger says this:
The pitch is compelling: Participate in the stock market's upside and avoid the downside. That's how sales agents who collect lucrative commissions peddle equity-indexed annuities. Their targets are baby-boomers who are trying to rebuild their nest eggs and are now fearful of the stock market and frustrated with bonds' low interest rates…But these costly products give you only a portion of the market's gains, and their protection against loss is minimal…Despite the title, equity-indexed annuities don't actually invest in the stock market. Your returns may be loosely based on a market index, but you get a lot less than investors in the actual index would receive because of caps on returns and other limitations.
Forbes is also critical:
Some 99% of the time indexed annuities underperform a simple portfolio that’s 60% in zero-coupon Treasuries and 40% in a low-cost S&P 500 index fund, according to a 2008 study by economic consultant Craig J. McCann, who often works for investors and regulators.
The list goes on and on. As near as I can tell in a brief search across the internet, it's pretty unanimous. The only people who think buying these products is a good idea seems to be those who sell them. If you haven't been talked out of buying one of these yet, please at least read The Truth About Buying Annuities by Steve Weisman before doing so. He gives an excellent, and quite unbiased, analysis of the subject.
More importantly, it's critical to understand that there is no free lunch here. You want stock-like returns. You don't want stock-like volatility. Guess what? You can't have one without the other. Getting an insurance company involved in the investing process to insure against volatility just increases costs, rather than insuring you against the low returns that are the real enemy of the long term investor. As usual, complexity favors those who sell the product, not those who buy it.
What do you think? Do you own an index annuity? Are you glad you do? Have you had someone try to sell one to you? Why did or didn't you buy it? Comment below!
Cannot blame anyone but the investor for not doing their due diligence before buying this terrible product. One of the axioms of investing is to never buy a product that you are not fully knowledgeable about. As well anything that sounds too good to be true, IS NOT. Wall St will always produce products to take advantage of an uneducated public. Very sad but very true. Buyer Beware
I’m sure many consumers realize they don’t understand the product. Unfortunately they trust the person selling it. One should be very cautious with insurance folks to say it mildly.
Annuities are sold, not bought
Ron Leiber just discussed these in the “Your Money” column in NY Times business this past weekend. He mentioned good ol Tony Robbins as endorsing these products in his new book and noted how Robbins is quite the biased endorsement since he owns some stake in one of the companies.
Nice work as always. I know you write your posts in advance so what perfect follow-up timing that after Leiber said they’re bad, you just kept the hits coming. Especially love the statistical bias quoting from the table.
Yes, I saw that column this weekend. It’s not so much that I want the hits to keep on coming. I just want docs to know exactly what they’re buying before buying stuff like this. Obviously, most who know won’t go on to buy it, but those who do will at least know what they’re getting into and be far more likely to stick with it and never pay a surrender fee.
I’ve been following this “Don’t mix insurance and investing,” blog for a few months, and I have to say I disagree with your financial advice. However, thanks for the clarification between index life and index annuities.
My wife and I have an income that put us in the 39.6% income tax bracket. Meaning we makeover $457,600 combined. We also have to pay an extra 3.8% surtax on investment income.
Tonight Obama will propose to raise the capital gains tax to 28% for the 20%. It was just raised to a year or so ago from 15% to 20%. I don’t see how you can say taxes will not increase, in an attempt of discredit indexed life insurance.
My wife and I both own Index Universal Life insurance, we are very happy with it, and we just received a statement that our caps have increased by .25% for a max of 14.75%. We max fund it, instead of funding a taxable mutual fund account, and thank GOD we have.
Thank you for your comment Chancellor. Congratulations on your high income. I’m pleased that you are happy with your purchase of index universal life insurance policies for you and your wife. I’m not surprised to see people disagree with me about mixing investing and insurance, since it happens all the time. If you can reach your financial goals using this particular investing strategy, then great. There are many roads to Dublin.
I don’t believe I have ever said that tax rates will not increase. I remain quite agnostic on what future tax rates will be. They might be higher, lower, or similar. We’re certainly not at either the highest or lowest marginal tax rates this country has been at in the past. Most physicians, however, will see lower effective tax rates in retirement than they saw during their peak earnings years for various reasons explained elsewhere. Obama’s proposal to increase capital gains taxes to 28% applies only to those in the top bracket, but it doesn’t really matter, since the executive branch is not in charge of legislation. Which Republican-controlled house of Congress are you expecting to pass legislation increasing capital gains tax rates this year? At any rate, you and your wife don’t make enough that you’d be in the proposed new 28% capital gains bracket. That’s for $500K+ earners per this article: http://www.forbes.com/sites/robertwood/2015/01/18/obama-pitches-capital-gain-hike-to-31-8-in-simpler-fairer-tax-code/
I have no interest in “discrediting” IUL. I think it’s a lousy investment. I want physicians who buy it to know exactly what they’re getting. Sharing the experience of those who have bought such policies, especially those who are particularly happy or upset with their purchase can be particularly helpful to a physician trying to decide whether or not to buy a policy and to a physician considering surrendering their policy when they find out it isn’t what they thought it was. Would you mind emailing me a copy of your initial illustration as well as your most recent statement, blacking out identifying information of course? Sharing your experience is likely to help many of your colleagues.
To everyone else reading this comment, keep in mind Chris is not discussing Indexed annuities like this post is, but rather a separate product discussed here: https://www.whitecoatinvestor.com/an-index-universal-life-insurance-illustration/
Treatment of life insurance can also be changed in the tax code at any time.
IUL will perform very similar to a standard UL. Maybe a little better and maybe a little worse. Might want to read this written by insurance folks I might add.
http://insurancenewsnetmagazine.com/article/illustrated-promises-unmet-expectations-2533
Hopefully you wont have many down years in those retirement years when you are taking out those loans which cost interest and have ever increasing cost of insurance. If surrender or lapsed then gains are taxed as income.
WCI,
I think Chris’ comment that he and his wife make greater than $457,600, does not mean he does not make greater than $500,000. Given his comment I suspect they actually do make greater than $500,000. I thinkt he $457,600 was placed for tax purposes. I agree capital gains rates won’t go up with the current congress. However, I also know that for a certain few, RARE Whole life policies will actually do better (after about 10 years) than a taxable investment account especially in those earning large amounts of money. There are also advantages as it relates to creditors etc that you have discussed in past posts. That being said, the pure idea and concept of whole life is so obtuse that I can’t wrap my head around using it as an investment tool. I do not doubt that if Chris/wife is a high earner and can virtually guarantee he will continue to be a high earner for the rest of his working career that it is likely a better investment tool than taxable investments. Those guarantee of high earnings for a long time is something that is a BIG if for anyone and that is why I choose not to risk this form of investment. That being said, I can understand why some would consider it….just very few.
Maybe his taxable income is more than $500K; I suppose that is possible.
The post wasn’t even about IUL, much less WL. But your comment illustrates one of the myths of whole life- that those in a high bracket are better off with it due to tax efficiency rather than a taxable account. First of all, yes loans are tax free, but they’re not interest free. Second of all, whole life long term returns are in the 3-5% range. Let’s assume the loans ARE interest free. So you get 4%. Or you can invest in let’s say a very tax-efficient stock index fund in a taxable account. Let’s say long term returns are 9%, with 2% a year due to dividends. If your qualified dividend/LTCG tax rate is 23.8%, even if you turned it over every time you had a LTCG, you would still make 9%*76.2%=6.9%. Since you’d probably hold longer than one year with this long term investment, you’d probably do even better. Let’s say 7.2% just for fun. Okay, now, invest $20K a year for 40 years at 4% vs 7.2%. What’s the difference? $2 Million vs $4.5 Million. I don’t know about you, but I know which way I’m going to bet. But if you only need 4% returns to meet your goal, I think there’s a very good chance you can get that out of whole life.
I agree there is serious risk of not being able to make the premiums in the event that your income goes down. To make matters worse, it forces you to keep working as you now have an additional significant mandatory (at least for a decade or two) fixed expense.
Even an overfunded whole life policy using non guaranteed dividends (which continue to go down by the way), will have done slightly better than break even after 10 years (not accounting for inflation). Most people can beat that in a taxable.
Rex: Enough with the fear mongering already!
I don’t buy that (IRS can change the laws regarding cash value life insurance,) argument for a second, and I think you know better. That’s akin to saying, “The IRS could close the tax loophole of the backdoor Roth IRA, so why even bother funding it?!?!? Or saying the IRS could change the tax treatment of the Roth IRA, so why even bother funding one now.” Also, I believe there are constitutional safeguards protecting us from the government doing things ex post facto. I think also you know better.
You have to take advantage of the current laws and act accordingly.
I don’t know what constitutional safeguards you’re talking about. It certainly isn’t in the bill of rights. Which article do you think it is in?
I think Rex’s point is simply a reply to the agents who say the government can tax Roth IRAs again if they want to. That’s true. But it’s also true that they can take away the tax-free death benefit (or other tax benefits) of life insurance. I agree with you that it is all unlikely and best to make your plans using current law.
Well then you havent looked at this then bc they already have done it in the past and it gets brought up as a possible change periodically. The entire reason MEC limits exist is bc the rich were in essence buying 1 dollar of permanent insurance and then overfunding it to infinity in order to avoid taxes. They changed the laws to avoid that and they can do it again at any time just like all the other ones. There are no safeguards that you have mentioned. I dont bring up that fear stuff. Agents do. They use it as a reason to purchase life insurance bc you should fear income or long term captial gains tax law changes. There just isnt any reason to believe one should fear those any more than changes for insurance. Frankly if you look at the dollar payout for permanent insurance, since almost nobody keeps them in force especially the poor or middle class, the payouts are such that most of the dollars go to the super rich. If one wanted to soak the super rich, its probably a better place to start. Now i personally think none of the laws will change enough to alter my plans and current ones dont favor insurance. So yes i do know better….
People who hate Jim:
Add index annuity salesman to your list of whole life salesman 😉
Thanks for the good info. I really like that table that randomly picks time periods. Seems like it would have been easier to show a table comparing annuities from 1997 to 2010 and just give 1 number instead of breaking down statistics that make you look good (although picking 2010 as an endpoint is inherently biased…may as well have picked 1930).
Thanks!
Let’s assume for a second you understand what these annuities are about and how they work, you don’t anticipate having a significant pension income other than social security, and you don’t anticipate needing the money for a long time so that surrender charges are a non-issue.
Wouldn’t it be reasonable to use the “best in breed” annuity listed above as a portion of the “fixed” side of a boglehead-ish portfolio? A 2.75 guaranteed return with the likelihood of a slight overage is the same or better than what I expect to get out of my available stable-value options or perhaps evenTIAA traditional, and doesn’t require using up tax-advantaged space which is in short supply for many of your readers.
Compared to “safe” bonds of similar duration as the surrender period, the rate is no worse, the annuity can’t go down which bonds can, and there is at least some increased level of asset protection. Moreover tax status is no worse than bond income (it would be worse than bond cap gains but those don’t seem likely to be a major factor for bonds or bond funds bought currently). There may even be a tax advantage vs bonds if one chooses to actually annuitize at some point.
In other words, I would never use one of these for equity exposure but it seems like there could be a legit role as a “bond substitute.” Or is there something I’m missing here?
Maybe, maybe not on the asset protection. It’s state dependent.
But you’re right. If you’re okay with all the downsides (and you didn’t mention them all, but I’ll assume you understand them), and you’re okay with returns similar to fixed income investments, then sure, knock yourself out. But the point of this post is that you shouldn’t expect stock-like returns. It’s not all or even most of the upside of the market with none of the downside. I get sick of hearing from docs who bought these things thinking they were something they’re not.
The only downsides I can think of that I didn’t at least tangentially reference is credit risk of the issuing company and inability to rebalance — what else is there?
That said, when I looked at the info at immediateannuities, it looked to me like 2.75% is the current interest rate on the “fixed account” option, but 1% is the minimum guaranteed rate. In other words, a big enough disparity to moot my main point about favorable guarantees vs other fixed income such as stable value funds.
If I am in fact interpreting this correctly, you may want to update that paragraph.
I think you’ve got them all now. Those were the two I had in mind.
If you are happy with a regular vanilla fixed annuity then you could be happy with this. It will perform very similar since the investment piece is very similar with a small slice of options. It may do slightly better or slightly worse than a regular deferred annuity. These can perform worse then non indexed ones and for some reason agents never seem to mention that.
I’d read The Truth About Annuities before buying any annuity. https://www.whitecoatinvestor.com/the-truth-about-buying-annuities-a-review/
All very interesting but there is a very easy way to accomplish investing and annuities. Most everyone here has heard of the Wellington mutual fund that has been around since 1929, or something like that. If you purchase and annuity from V**g**rd at no cost to you, 100,000 in equals 100,000 in the Wellington fund “clone”. 3 years ago I put 100,000.00 in this and immediately started the monthly withdrawals and on the same day I purchased the Wellington fund in the same amount. I have kept track of the 2 purchases by reducing my mutual fund purchase by the same monthly amount the annuity pays me. I have not deducted the .95% fee the annuity charges from the mutual fund (disclaimer, it has since gone up)There is such a low difference between the 2 purchases that I have decided to do more of these. They will provide the income I need and the growth I want at an extremely low cost. My peace of mind is worth it. Everytime I log onto the V****ard website the annuity is listed with the other funds I own, even though it is really just a clone held by the insurance company. The holding are within 0.0001%. I am able to see the holdings in both accounts. It is a very overlooked way to provide growth and income with absolutely no restrictions and at the same time give you a stream of income forever. (Insurance company doesn’t fold, but that is a whole different topic.)
Thanks,
Paul
That of course then wouldnt be an index annuity which is the topic of his post but still not sure why you decided to hold that within an annuity wrapper since you didnt mention any income rider (which does have costs) or annuitizing so im not sure where the idea of income stream forever comes in. Im not doubting that its a good bond fund nor that you can do okay living on dividends and interest but its not the same thing as insurance guaranteed income.
WCI,
After doing my own analysis of some of these policies I came to exactly the same conclusion – what a shock!
Sometimes there are some annuity products that might make sense, especially immediate annuities, in some cases, but the indexed annuity is certainly the very last I would look at.
fd
Hello Rex,
I only brought it up because some of the tone implied that annuities and stock/bond investing don’t mix. The opinion I provided shows that it can. I did state my cost (o.95% and factored that in. I an trying to help individuals see that index annuities, while might be good for some and terrible for others, this is a way to get full participation in the market with absolutely no restrictions (some annuities as previously mention say if the market goes up a certain percentage you only receive a portion of it) The fund I am referring to is 60% stocks and 40 percent bonds so growth is available with absolutely no down side. Not meant to be an agreement, just something for other people to further research. It won’t be for everybody like all forms of investment
Thanks,
Paul
That isnt an index annuity. That is a variable annuity then. I have no idea why you think there is no down side. There most certainly is. Maybe when he has a post on variable annuities, you can comment on that. With any product that gives full participation, you get full risks (which isnt at all what the sellers of index annuities try to make you think) or you pay for some sort of rider that allows you to have a baseline to get income from regardless of what happens on your investment side. You also change gains from long term capital gains to income level, you cant tax loss harvest, you dont get a step up at death. All of those would certainly be downsides not including the additional fees. Finally unless you are having an income rider, you dont have a guaranteed income. You probably will have income from the dividends and interest but thats also not the same thing. Not sure why you own that fund inside an annuity wrapper in your case but glad you are happy.
Hello Rex, I only brought this up because it was being lumped into varying annuities and I wanted to show there are products that shouldn’t be mentioned in the same sentence. I agree with a lot of your points. I really don’t get the risk an index does. My payment can never decrease, it can only go up with no limitations on how high it can rise. (no caps) I do agree with your tax statements although I try and keep my AGI right at the high end of the 15% bracket and then the decision becomes do I want to pay the tax or know I will get income for as long as I live. I prefer the second one. Like I said, it isn’t for everyone but it is nowhere near as bad as some I have had pitched to me by salespeople. I would never buy one of those. Again Rex, thanks for the comments and I had no intention to hijack the board, just let some people know there are other products to be looked at because it was brought up.
Thanks Rex,
Paul
VAs have issues too. I can think of a few reasons to buy one, but as a general rule recommend against them. Certainly if you get one it should be one of the relatively low cost ones such as Jefferson National or perhaps even Vanguard.
Mine is Vanguard. I don’t know if you saw this portion in one of my other posts but my annuity is entirely in the Wellington “clone” of which I bought the exact amount of the “regular” Wellington fund on the exact day in my regular account that so I can follow them together. I would not change anything I have done.
Paul
I dont agree that others were lumping. Frankly i feel you have lumped this in here but that doesnt matter. glad you are happy but given the additional information you have provided then you must have an income rider of some sort. Besides the costs of this, the payout/annuitization table from those arent super by any means which is a significant hidden cost. The same amount will buy a higher paying SPIA. Thus while you have a shadow account that cant lose money, the amount you are given in actual payout is inferior. There is no free lunch here. Nobody is giving you protection for free. While distantly some of these riders were generous compared to what is offered today, they are still costly in the long run both in obvious and less obvious ways. I have nothing against that fund per say but id sooner have it in a tax protected account that isnt an annuity or even a taxable and then if i desired at a later date purchase a SPIA. Insurance isnt free.
Are Vanguard VAs offered with income riders?
Sorry, I really wasn’t lumping, I will stop…..I do have the rider and it cost 0.95% so you are correct. You are also correct, the SPIA would pay me 3/4 of a percent more. I just don’t want to give up control of the money in an annuity (SPIA) The annuity I am in is really just a mutual fund I track all the time. I can put a sell order in just like you could on any fund you own. There is no cost to do this, it is exactly like yours. There isn’t a free lunch, I pay the 0.95% fee. That is the cost of my lunch and it is worth the peace of mind to have an additional monthly income besides my other investments and social security.
It has been a pleasure speaking with all of you and I will kindly leave as it wasn’t my intent to intrude on your subject matter. Have a great rest of the weekend!
Aloha Nui Loa!!!!
Paul
I thought 0.95% was a little high for Vanguard. I think the VA is half that price without the rider.
Keep in mind the hidden costs of the rider which is the poor annuitization schedule. So many people dont seem to realize how much that costs them or the compounding effects of the known fees over time. It doesnt even make any sense to go down that road if you arent fully planning on using the rider which means that one will be making an irrevocable purchase. Taking some income out and then changing gears isnt a good idea since you deplete your actual (typically actual one and not even the shadow one) and only get whats left in the actual. If one is so scared but wants some income then purchase a limited year like 10 or 20 SPIA instead of lifetime. Better growth without all the negs and then a better annuitization schedule.
That of course doesnt even include costs associated with lack of tax loss harvesting, changing capital gains to income (if one actually is low on income rates then the capital gains rates can even be zero with the point being they are pretty much always lower at this time then income rates), and lack of step up at death.
Keep in mind vanguard is just operating as a store front for these products that are really run by the insurance company so the insurance company can offer whatever riders it wants. Nice that they have access to vanguard funds but thats about it.
After holding the annuity and Wellington fund for a little over 3 years there is a 900 dollar difference between the two totals. I have been taking the rider since inception on the annuity and all dividends and capital gains are paid in cash on the taxable account. It is worth it to me for 300 dollars a year to not worry about the stocks and bonds in the Wellington clone held in the annuity to insure a life long income stream in addition to SS.
Aloha!
Interesting product. Thus far, the rider has cost you $900. That’s the price of the insurance. If that’s a good deal to you, then great. But I can understand why someone else might not want to pay it too.
I agree that the irrevocable nature of many/most insurance-based investing products is a serious downside and one of the main reasons I don’t use them. You’re all excited about buying it and then 3 years later you’re suing your advisor for recommending it to you!
The irrevocable nature of this product is another reason I chose it. You can buy it Monday and cancel 2 days later at no charge.
That includes management fees for the mutual fund from Wellington.
PS. I think that was correct, to be honest I haven’t looked since I bought it 3 years ago…
Here’s the link:
https://personal.vanguard.com/us/secfunds/annuities/variable?View=EF
It doesn’t list a Wellington VA, but most of the total expenses are in the 0.7-0.9 range.
Since the vast majority of 403(b) plans with PreK-12 school districts offer almost all annuity products, here is a list of major and minor newspapers articles which almost universally condemned annuities. The index annuity is the latest fad that has produced runaway sales in 403(b) plans in PreK-12 school districts in the last ten years.
Over thirty articles: 403(b) Newspaper and Online Reports (1994-2012)
1. Where to invest a 403(b): almost anywhere by Melynda Dovel Wilcox, Kiplinger’s Personal Finance, Feb. 1, 1994. (Note: This article discussed only transferring from an annuity or high fee vendor into a low-cost mutual fund).
2. Fighting for 403(b) funds: With Annuities, you’re stuck with extra fees by Kevin McCormally, Kiplinger’s September1997 (Note: I learned about this great article after Kathy Kristof’s article).
3. Protect Yourself from American’s Flawed Pension Plans. By Andrea Rock, December 1, 1997, MONEY Magazine.
4. The Fourth R: It’s Retirement, and for many teachers the arithmetic is narrow investment choices is unsatisfactory. If you are persistent you may be able to get your employer to broaden your choices. Kathy Kristof, Los Angeles Times, January 18, 1998.
5. For Teachers, Object Lessons From the 401(k) by Richard A. Oppel Jr. New York Times, June 13, 1999.
6. Public sector retirement savings plans often are accompanied by hefty fees that reduce returns. Just Ask Pinellas County Sheriff’s Deputy Adrian Nenu by Helen Huntley. St. Petersburg Times Online Business, September 26, 1999. Adrian has been an awesome force trying to reform all retirement plans. He is a prolific poster on several investment forums.
7. 1st Step in Teacher’s Lesson Plan: Crash Course in Investing by Suzy Hagstrom. Los Angeles Times Makeover special, December 21st, 1999.
8. The Fleecing of 403(b) participants by CBSMarketWatch.com May 30, 2000.
9. Feds issue annuity warning by Marcy Gordon, Associated Press, published in the Daily News, June 6, 2000.
10. Special Report: Shark Attack! Investors in 403(b) plans, beware: You are especially vulnerable to predators by Don Kuehn, American Teacher. American Federation of Teachers (AFT) trade magazine, June 2000 (Details of this extraordinary article in Chapter 6).
11. Insurance Agents Weigh in on Column Taking Industry’s Bad Apples to Task by Liz Pulliam Weston, Sunday, June 18, 2000 Los Angeles Times. Ms. Weston’s response to a complaining insurance agent was brilliant.
12. Retirement plans come in various flavors—403(b)s can leave a bad taste by Paul J. Lim. US News and World Report (July 10, 2000).
13. Retirement Savings Plan Costs Teachers, Lawsuit say by Mary Doclar and Mike Lee. Fort Worth Star-Telegram, Sunday, September 17, 2000.
14. Savings Shock by Michele M. Capots. Education Week, Vol. 12, Issue 7, Page 9, April 2001.
15. Changes to 403(b) plans help teachers save by Sandra Block. Your Money, January, 2002 USA Today.
16. Cops and Teachers Getting Soaked by Robert Barker. USA Today MONEY, July 19, 2002. Friend and Sheriff Adrian Nenu is featured once more. He is a fighter!
17. Teachers’ 403(b) plan nonvirtues ‘extolled’, San Diego Union, 2004 by Lynn O’Shaughnessy.
18. Costly Lesson: Some of the biggest names in insurance peddle lousy retirement plans with high fees and low returns. One and a half million teachers blithely signed up for these dogs–often with their unions’ blessing. Forbes Magazine by Neil Weinberg, 2005.
19. Teachers get harsh lesson on investing, Saving for retirement harder with 403(b) law, San Diego Union, by David Washburn (2005).
20. As Teachers Sock Money Into 403(b)s, Few Defenses Exist, The WSJ, Aug. 25, 2005, by Tom Lauricella.
21. Teachers investment plans flunk, 403(b) plans could hardly be worse: fees are outrageous, there’s no match and there’s no oversight, MSN Money, 2005, by Timothy Middleton.
22. Unions’ Advice Is Failing Teachers. Labor groups have joined forces with investment firms to steer members into savings plans that often have high expenses and poor returns, by Kathy M. Kristof. Los Angeles Times, April 25, 2006.
23. Firm to disclose savings plan fees. AIG agrees to detail charges that it will levy in a new L.A. teacher retirement program. Los Angeles Times by Kathy Kristof, October 23, 2006.
24. Fleecing 403(b) plan participants, W. Scott Simon. This is an excellent eight part series of articles tearing the 403(b) system apart, from total lack of fiduciary responsibility, high costs and the insanity of nobody in the educational establishment looking after the teachers’ best interest. Mr. Simon is a Morningstar Advisor contributor.
Fleecing 403(b) Plan Participants April 5, 2007
Fleecing 403(b) Plan Participants (Part 2)May 3, 2007
Fleecing 403(b) Plan Participants (Part 3)June 7, 2007
Fleecing 403(b) Plan Participants (Part 4)July 5, 2007
Fleecing 403(b) Plan Participants (Part 5) August2, 2007
Fleecing 403(b) Plan Participants (Part 6) October 4, 2007
Fleecing 403(b) Plan Participants (Part 7) November 11, 2007
Fleecing 403(b) Plan Participants (Part 8) June 5, 2008
25. Prepare for Changes in 403(b) Plans, Wall Street Journal, MarketWatch.com, 2007
26. Fees take huge toll on 403(b) plans, Bankrate.com, by Leslie Hggin Geary, 2007
27. How to avoid 403(b) pitfalls, Bankrate.com, by Leslie Haggin Geary, 2007.
28. Annuities: Good, Bad Or Ugly, Forbes.com. By Mel Laudauer, 2010. A six part series.
29. California teachers’ supplemental pension plan is flawed, study finds. Los Angeles Times, by Walter Hamilton, March 2, 2011.
30. Teachers’ 403(b) Plans See Big Changes, Wall Street Journal, January 4, 2012 Leslie Scism.
31. Law limits L.A. school district’s efforts to simplify 403(b) plan, Pensions and Investments. By Robert Steyer, July 9, 2012
Thanks for the comprehensive list.
What was the end date for Michael Zhuang’s equity index annuity study? I’d like to see if the annualized ROI even falls within that 2% – 5% range.
As I recall, his small collection of anecdotes (not sure I’d elevate to the status of study) had very poor returns.
You didn’t dive deep enough. More like a google search wtihout real analysis. Look up Dr. Wade Pfau and Moeshe Milevsky and others. If you do a wealth manager they take 1 to 1.5% a year after 30 years thats up to 45% of what you invested originally and really its much more than that because as it grows for 30 years 1.5% of the new 10 million is $150000 a year in fees. I worked at Merrill Lynch as a stockbroker and with annuities. You want your grandma who has 500k to live on to risk half of it to a fake economy stockmarket bubble currently? lose half her money and run out of cash in 12 years? or the 65 year old receive income for life with a COLA? I choose the annuity. You also forgot peace of mind, sleeping at night, and a big one….most investors sell when the market crashes and buy at the tops so those returns never turn out in reality because of human flaws. You also forgot the difference in annuities. variable annuities get stock market like returns minus 5% in fees on average. FIA which i prefer have annuities earning 8-9% and many 5-6% net net of all fees for long long periods of time. the SP from 2000 to 2012 didn’t gain a penny broke even. if someone retired in 2000 and use the old 4% rule which is now a 2% or less rule that person is broke. Annuities do better than bonds, the bond bull market is over, inflation is coming, interest rates will rise, the markets will get killed and annuities wont lose a dollar.
Weird that someone who sells annuities would disagree. What’s the matter? Did you lose a sale to this post? Too bad, so sad.