For much of the financial world, Annuities are a four letter word. But what exactly are annuities and why are they so bad?
super quick history lesson
In the past, financial advisors sold annuities to everyone. Typically, annuity products have great commissions, so advisors would push them on clients for the wrong reasons so they could earn a big commission. Many advisors even made the majority of their income based on commissions from annuities alone.
The problem was, these annuities could cost clients tons of money and ended up hurting them in the long run.
So now, many financial experts try to protect people from abusive annuity sales by swearing off all annuities in general.
But that could also be doing more harm than good.
A Dirty Little industry Secret
Not many people have pensions anymore, but if you do, have you ever complained about your pension?
Of course not. It’s a great deal. You paid a little bit of money and you’ll guaranteed income for the rest of your life.
Here’s a secret, through: a pension is just an immediate annuity.
What's the disconnect?
People love pensions but hate annuities, mainly because they don’t understand them.
Annuities are built by life insurance companies, but function the opposite way life insurance does.
When you use life insurance, you pay money based on your age and since everyone is paying a little bit of money, but the possibility of you dying right now is small, the company can afford to pay you a lot of money if you do actually die.
On the other hand, annuities will pay you regularly as if you will die at your expected age. You pay money to the company and they guarantee you income based on your life expectancy.
A Poor Workman Blames His Tools
Annuities have definitely been abused in the past, which is why many advisors tell their clients ALL annuities are bad.
But this practice is just as harmful to people as the annuity scams.
Every financial product is a tool. We have got to get out of the mindset that one product is always good or always bad. It all depends on how its used.
A hammer isn’t simply good or bad, it depends on how its used.
There are multiple types of annuities, all with different uses.
- Variable Annuities, which put money into a shell company that you can use to invest in the stock market
- Fixed Annuities, which are like long term CDs. They allow you to put money in and get a guaranteed return and your money back at the end.
- Fixed Index Annuities, which will grow based on the growth of the market index.
Each type of annuity exists for a reason and is beneficial or harmful for anyone, depending on their situation.
Variable annuities have been the most abused and used in unhealthy ways. I’d say 9/10 times it’s purchased it shouldn’t have been. But I also know lot of people who needed variable annuities and had great outcomes.
It’s not because one person did something better than the other. It’s just their situations.
Know What’s Best For You and building the life you desire
I recently had a new client come in. He was in his 80’s and had been talking to another advisor about potential income sources since he was well into retirement. His advisor had recommended an annuity, but this client wanted a second opinion.
He brought me his annuity illustration and I could immediately tell this advisor was working based off commission.
He thought he was getting an immediate annuity, like a pension, but he was actually getting a variable annuity. There was no reason this man should have a variable annuity, other than to get his advisor a big payout.
He didn’t have a large income, but needed regular returns to supplement his living.
I told him how unhealthy the proposed annuity would be for him and recommended an immediate annuity, which would give him the guaranteed income he really needed.
Here’s the key: it wasn’t that the annuity he had was bad. It just didn’t make any sense for his situation. There were better fits for him, even better annuity options.
Don’t automatically reject annuities because of what you’ve heard. On the other hand, don’t blindly accept annuities because a “professional” sells it to you.
Get second opinions
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