The Annuity Series has provided a lot of good comments, some questions, and also, I’ve angered a couple of people. I want to take the time to address some of these comments and questions in this video. I think this is a great idea as we go through this series because many of you may have the same questions or thoughts and don’t type them in down below.
Okay, the first one. “I love this channel, the best retirement details on YouTube.” Thank you very much. I do appreciate that, coming from Kbrabson. I agree, we try to provide a lot of details on this channel. As I said in the introduction to annuities video, we’re going to be transparent, and we’re going to show you the things that you need to know. Thank you very much for that.
Coming down here, Phillip, one of the people I believe I angered. “There’s no explanation. Just legal and accounting stuff. Typical of an annuity sale, never explain the real cost of an annuity to customers, their secret get-rich-quick scheme.” Phillip, as I said in the video, this is going to be a series where we dive deep into annuities over a period of time. Now, I could have done it all in one video and got into everything and it would’ve been 8 to 10 hours. I’m sure you would’ve watched every last bit of it.
Legal and accounting stuff, it is important to understand how the statutory accounting system works. It’s important to understand what contractual guarantees you have, is your money protected? How is it protected? For those that are truly interested in learning about annuities, this is a fundamental topic that needs to be understood. The real cost of annuity to customers, I guess I don’t quite understand what you mean here, but some annuities have annual fees, some annuities have absolutely zero annual fees.
Now, there are surrender charges which I talked about in that video. Sometimes there are some hidden fees in the indices that you track inside of an annuity. If you have a variable annuity, which is different from a MYGA, which is different from a fixed-indexed annuity, variable annuities do have typically 3% to 4% per year in fees. As I said though, we stay away from variable annuities, we do not recommend them because we don’t believe they’re competitive in the marketplace from a guaranteed protection of principle standpoint, as well as the guaranteed income benefits.
Mr. Loco Loco says, “What percent kickback do financial planners get from insurance companies for pushing annuities on their investors?” I did address this in the video. Typically, annuity commissions, depending on which type of annuity that is being sold, will generate anywhere from about 2% to 7%. Now, the adviser selling that annuity does not typically get that full commission. Most of it goes to the company that that advisor works for and the advisor himself or herself will get maybe 10%, maybe 15%, typically in industry standards or up to about 25% to 30% on the high side.
Now, addressing the pushing annuities on their investors, yes, there are some bad financial advisors that absolutely push annuities on investors. I’ve run across plenty in my time in this industry, but just because there are bad people out there, doesn’t mean that all annuities are bad tools. If you have bad motives, whether you’re selling cars or homes or groceries or whatever you’re selling, you’re just a bad person. It doesn’t mean that groceries, cars, and homes are also bad. The important part is that if you consider an annuity, you need to understand how it fits into a retirement plan and then understand how that annuity works and how it benefits you.
Annuities aren’t right for everyone, but there are a lot of really good financial advisors that help people get into annuities. Those people are happier, they have more secure outcomes, they have more predictable cash flow, and they’re not worried about running out of income. It’s important to understand the difference there.
I want to point out one other thing here. You used the word “kickback”. I answered it with “commission”, but kickback brings up a very, very interesting point. Typically, if you go to a big bank or a big brokerage firm, they’re only going to recommend one or two insurance companies. The reason is, in the industry, you have what’s called street-level commission. This is what the commission that the agent receives is based on, but if an entity places a certain amount of business with one particular company, typically there’s an override.
It may go from 7% to 10%, but the agent doesn’t receive that kickback, that 7% to 10%, that 3% extra, that goes directly to the company, to the institution. I’m not going to name names here, but there are lots of big brokerage firms out there that if you walk in the door, you’re only going to get a recommendation from maybe one or two possible annuity companies.
They’ll put a billion dollars a year, maybe two or four billion into that particular company. These products typically are the worst, maybe not the worst, but they’re not competitive. That institution, that large brokerage firm will receive that full kickback. There is a massive incentive and you bring up a good point. I just want to differentiate between, yes, there are conflicts of interest out there, but it’s up to you, the consumer, to become educated and understand if an annuity fits inside your personal plan. Again, it doesn’t mean that every annuity in the industry is bad. There are some very good ones.
VP says, “I purchased a single premium immediate annuity, SPIA, from a highly rated company. Used about 20% of my savings. I get a generous monthly payment. With pension and Social Security, a terrific income. No market worries. Absolutely love it.” Okay. We have two comments here, and our friend, Mr. Loco Loco has reappeared. The first one is from Ram Barlev, “My exact plan, especially with the rise in interest rates,” very key point here.
SPIA, single premium immediate annuities, are when you give all of your money to a life insurance company, and in exchange, they immediately start giving you an income in return. That is not the type of annuities that we’re talking about in this series. As a matter of fact, for the past 12, 13 years, SPIA has typically been a poor investment. Now, interest rates are rising and that makes SPIAs a bit more attractive.
I still think you can do it just as safe, a different strategy, but again, this speaks to the point that, VP, if you are happy, and if you made that deposit, and you are getting an income for the rest of your life, that you are happy with, it makes you content, and you sleep at night and you don’t worry about the market, then good job. That’s what an annuity is supposed to do. That is the purpose. Did you possibly get the best deal out there? No, probably not, but if you’re happy, that’s all that matters.
Our friend, Mr. Loco Loco says, “I am sure you paid a hefty fee for that SPIA.” So, no, SPIAs do not have fees. SPIAs are you simply deposit the money with a life insurance company. They tell you in advance for that specific deposit, how much income you’ll receive monthly for the rest of your life. Now, if you deposit $100,000 and the insurance company is calculating based on average life expectancies how long you’re going to live. Typically, with SPIAs, if you outlive that life expectancy, the average mortality, you’re going to come out ahead.
Now, are you going to earn 10% a year with that SPIA? No, you’re absolutely not. It’s essentially probably in today’s interest rate environment around a 1.5% to 2% return, but it is 100% safe, and it is fully guaranteed and it’s a recurring income. Again, I personally wouldn’t do that. It’s not designed for everyone, but if it makes you happy and it makes you content and you’re completely fine with that, you don’t always have to have the very best mathematical answer for everything. You don’t have to always try to get the very best. You just need something that meets your goals a lot of times, but again, no fees for SPIAs, it is what it is.
Now, I do want to point out that when you fill out your paperwork for that SPIA, you have to make a choice. Do you want a lifetime income only? Do you want a life with 10-year certain, life with 20-year certain, or a life with 30-year certain? If you do lifetime income only, there is no death benefit. No one receives any payments when you pass away. If you choose a life with a 10-year certain, and you get hit by a bus tomorrow, your beneficiaries will receive a payment for 10 years.
Same thing with the 20-year certain or 30-year certain, the life-only option does give you the most amount of income. Often this is the choice that most people make, but it’s important to note that this is where the myth that there is no death benefit from annuities primarily comes from because imagine your kids, just hypothetically speaking here, they’re digging through your paperwork after you passed away, and they see three weeks ago, you bought an annuity, a SPIA, a specific type of annuity, and you just made $300,000 of investment.
Your kids, they call the insurance company, and the insurance company tells them there’s no death benefit because you or your father chose the life-only option. The kids are irate. They’re upset. They think annuities don’t pay death benefits. Actually, you chose the annuity that if you passed away, there was no death benefit. That was a choice that you made. In exchange for making that choice, you were offered the highest amount of guaranteed lifetime income possible that insurance company could provide.
My point here is that if you chose the life-only option, please communicate to your kids or at least write it down somewhere, so they understand what you chose, why you chose it, and they don’t get into a frenzy, trying to figure out what happened to mom and dad’s money.
Okay, Dave McCune says, “Is income from an annuity considered tax-free?” We are going to have an entire video on annuity taxation. The simple answer here is no unless you’ve purchased an annuity inside your Roth IRA, or you’ve purchased an annuity with your IRA funds, and then convert it to a Roth IRA. Now, if you use non-IRA money, and you do what we call annuitize, there is something called the exclusion ratio where you can receive a highly favorable tax treatment to your annuities.
I’m not going to go through all the examples, but a simple answer to the comment, no, annuities are not tax-free unless you’ve converted them to Roth. If you use non-IRA dollars and you exercise or take advantage of the exclusion ratio, then you can’t have a tax-advantaged income. That needs to be a plan or part of a plan, it needs to be structured with respect to your other income.
Transcend says, “I think annuities are not FDIC insured.” Well, Transcend, you think correctly. Insurance companies are not regulated by the federal government. They’re regulated by state governments. Each state has its own what we call a guarantee association, which provides state protection up to a certain dollar amount. You have to check with your state’s guaranty association to see what type of coverage that you have, it is important to part out, and I talked about this in the introduction to annuities video, the very first one in this series.
Life insurance companies are protected by what’s called the statutory accounting system. They have dollar for dollar, more than 100% actually, legal reserve requirement, whereas banks that do have FDIC protection, they do not have 100% reserves. They loan their money out in the form of credit cards and home loans and construction loans and commercial loans and also do very, very risky investing themselves with derivatives and hedging and stock market type investments.
Banks take tremendous amount of risk, and they do so with a tremendous amount of leverage. I’m not saying banks aren’t safe, so you’re talking about the Wild West compared to Mayberry. No, insurance companies do not have FDIC protection, but check with your state’s guarantee association, and also understand that life insurance companies, they don’t invest in derivatives. They don’t borrow money to invest in the stock market. They invest in boring, stable, investment grade, long-term assets, which makes their returns much more predictable, and it’s why all of that combined, they’re able to use that word “guarantee”.
All right, we’re going to continue this series. So, keep commenting down below. Whether you like the videos, you hate the videos, you have questions, I’m going to keep doing these responses to comments, questions, so keep them coming please. Subscribe to the channel. Hit that little bell icon, so you’ll be notified, and we’re going to continue this Annuity Series, and we’re going to dive deep, so you can become a more educated consumer when it comes to your retirement.