Will My Annuity Income Really Increase?

Jim Lorenzen, CFP^®, AIF^®

Annuities can play a valuable role in a retirement portfolio; but, often they’re somewhat oversold.

Should equity-indexed annuities serve as a substitute for stocks?

Short answer: No. And, when making historical performance comparisons, you’d be better off comparing them to CDs and traditional fixed annuities. An equity-indexed annuity is nothing more than an interest-bearing IOU from an insurance company paying an unpredictable interest rate each year… anywhere from 0% up to the “cap”, which these days can be around 4-5%. So, do the math: if you get the maximum cap in two out of three years – let’s assume 5% – and zero in every third year, you’re averaging 3.33%. It’s up to you to decide whether that’s a good return. It is tax-deferred until withdrawn, but you also have a liquidity issue.

As I said, in some cases, they can make sense for a portion of a bond portfolio because of downside guarantees from the insurance company; but, you should also see if another alternative might make more sense.

“My annuity Living Benefit is guaranteed to return 5-10% each year!”

Not likely (translation: No). Too often, people look at the ‘income benefit base’ in the paperwork and assume (because they see a dollar sign in front of the number) they’re looking at real money. Not so.

Think of the income benefit base as “sky miles” – it’s a number that’s used to calculate the amount of income that will be generated and has nothing – zero – to do with the return on the policy itself.

Technically, many, if not most, annuity offerings state that if the account value ever exceeds the income benefit base, the purchaser will receive a ‘step-up’ in income. Realistically, however, it’s not likely (translate: won’t happen) these days, considering the spreads and cap rates the insurance companies are using. As long as living benefit income is calculated on the income base vs. the account value, you shouldn’t expect anything beyond what’s guaranteed on the first day of the policy.

If you’re considering purchasing an annuity, there are seven things you should consider ahead of time. You might find this short report worthwhile.

Enjoy!

Jim

Jim Lorenzen

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and an ACCREDITED INVESTMENT FIDUCIARY® serving private clients’ wealth management needs since 1991. Jim is Founding Principal of The Independent Financial Group, a Registered Investment Advisor providing wealth management, retirement planning and investment advisory services. Jim's background includes founding, building, and selling five successful businesses and international consulting. He has been headline speaker at more than 500 national and international association and corporate conventions for clients such as Foster Grant, Hobie Cat, CapCities/ABC, H.R. Textron, Hearst Corporation, The National Management Association, the National Newspaper Association, and Cox Communications and has been featured on American Airlines' Sky Radio heard on more than 19,000 flights, as well as in The Wall Street Journal’s SmartMoney magazine, The Profit Sharing Council of America’s Insights; also published in the Journal of Compensation and Benefits, NASDAQ, and in scores of national and international association trade publications.

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